A STRATEGIC ANALYSIS OF A BOUTIQUE INVESTMENT …summit.sfu.ca/system/files/iritems1/14049/EMBA 2013...

A STRATEGIC ANALYSIS OF

A BOUTIQUE INVESTMENT FIRM

By

Pawel Siarkiewicz

Bachelor of Science, York University 1999

PROJECT SUBMITTED IN PARTIAL FULFILLMENT OF

THE REQUIREMENTS FOR THE DEGREE OF

MASTER OF BUSINESS ADMINISTRATION

In the Executive Program

Of the

Faculty

Of

Business Administration

© Pawel Siarkiewicz 2013

SIMON FRASER UNIVERSITY

Term Spring 2013

All rights reserved. However, in accordance with the Copyright Act of Canada, this work may be

reproduced, without authorization, under the conditions for Fair Dealing. Therefore, limited

reproduction of this work for the purposes of private study, research, criticism, review and news

reporting is likely to be in accordance with the law, particularly if cited appropriately.

i

Approval

Name: Pawel Siarkiewicz

Degree: Master of Business Administration

Title of Project: A Strategic Analysis of a Boutique Investment Firm

Supervisory Committee:

________________________________________

Dr. Andrew von Nordenflycht

Senior Supervisor

Associate Professor

________________________________________

Dr. Aidan Vining

Second Reader

CNABS Professor of Business and Government Relations

Date Approved: ________________________________________

ii

Abstract

This paper is a strategic analysis of a boutique investment company operating in Vancouver,

British Columbia. The paper examines the company and the investment management industry

both in Canada and internationally. The analysis shows how profits have been eroded by

stagnated growth of the industry and increased regulatory requirements. In order to grow,

successful firms must look for new clients in the developing economies where the investment

industry is still growing, take existing clients away from other firms through direct competition

or change their business model. The developed market itself is shown to be undergoing a

significant change in its demographic makeup with a shift towards a higher percentage of

retirement aged population looking for different products than they did when they were middle

aged.

The paper concludes with a strategic option for the firm which sees it focus on retirement based

products built around increased returns and lower risk. This option will allow the firm to take

advantage of the demographic shifts and sets it up to be a strong competitor in the market.

Keywords: investment management industry Canada, strategy

iii

Dedication

I would like to dedicate this project to my wife Caroline whose unwavering support has made my

journey through the program possible. All those late evening editing sessions have finally paid

off.

iv

Acknowledgment

I would like to thank Professor Andrew von Nordenflycht whose comments and insights were

invaluable in allowing me to pull my thoughts together. I would also like to thank the SFU

business school faculty for sharing their experience and wisdom making the program a great

experience and a big thank you to the SFU staff that organized everything and allowed the

program to be so much more than pure academia.

I would like to thank my company and its owners for making it possible for me to enroll in the

program and for encouraging me along the way.

Finally, I would like to thank my amazing wife for putting up with the ups and downs of this

journey.

v

TABLE OF CONTENTS

Approval .......................................................................................................................................... i

Abstract ........................................................................................................................................... ii

Dedication ...................................................................................................................................... iii

Acknowledgment ........................................................................................................................... iv

TABLE OF CONTENTS ................................................................................................................ v

LIST OF FIGURES ..................................................................................................................... viii

LIST OF TABLES ......................................................................................................................... ix

1 Introduction ............................................................................................................................. 1

2 Organization’s Current Position ............................................................................................. 2

2.1 Company Overview.......................................................................................................... 2

2.1.1 History....................................................................................................................... 2

2.1.2 Organizational Structure of the Company ................................................................ 3

2.2 Overview of Dovos Customers ........................................................................................ 6

2.2.1 Private Investment Clients ........................................................................................ 6

2.2.2 Institutional Investor Customers ............................................................................... 6

2.3 Overview of Dovos Products ........................................................................................... 7

2.3.1 Products Manufactured at Dovos .............................................................................. 8

2.3.2 Products Outsourced to Dovos Partners ................................................................. 10

2.3.3 Product Categories by Investment Strategy ............................................................ 11

2.3.4 Product Distribution Channels ................................................................................ 12

2.4 Financial Overview of the Company ............................................................................. 16

2.4.1 Revenue Analysis.................................................................................................... 16

2.4.2 Costs Analysis ......................................................................................................... 17

2.5 Strategic Position of the Company ................................................................................. 20

2.5.1 Dovos’ Strategic Scope ........................................................................................... 20

2.5.2 Dovos’ Strategic Value Proposition........................................................................ 21

2.5.3 Dovos’ Strategic Investment ................................................................................... 23

2.6 Current Issues Facing the Company............................................................................... 26

2.7 Summary ........................................................................................................................ 27

3 Analysis of Factors External to the Company ...................................................................... 28

3.1 Industry Overview .......................................................................................................... 28

3.1.1 Industry Structure.................................................................................................... 29

vi

3.1.2 Industry Supply Chain ............................................................................................ 30

3.2 Analysis of Competitors ................................................................................................. 31

3.2.1 Competitor Composition ......................................................................................... 31

3.2.2 Competitor Strategic Grouping ............................................................................... 32

3.2.3 Competitor Grouping Details .................................................................................. 34

3.3 Analysis of Customers ................................................................................................... 37

3.3.1 Customer Characteristics ........................................................................................ 37

3.3.2 Customer Preferences Which Drive Purchasing Decisions .................................... 41

3.3.3 Customer Segment Size and Growth Trends .......................................................... 46

3.4 Analysis of Suppliers ..................................................................................................... 47

3.5 Analysis of Forces Driving the Industry ........................................................................ 49

3.6 Sources of Competitive Advantage ................................................................................ 58

3.6.1 Customer Utility and Willingness to Pay Advantages ............................................ 60

3.6.2 Cost Advantages ..................................................................................................... 66

3.7 Dominant Industry Trends ............................................................................................. 67

3.7.1 Trend of Declining Profitability.............................................................................. 68

3.7.2 Trend of Stagnant Developed Markets and Growing Emerging Markets .............. 69

3.8 Summary and Implications of the External Environment .............................................. 70

3.8.1 Strengths, Weaknesses, Opportunities, Threats ...................................................... 70

3.8.2 Summary ................................................................................................................. 72

4 Strategic Alternatives ............................................................................................................ 73

4.1 Strategic Option 1: Focus on Retirement Based Product ............................................... 73

4.1.1 Product .................................................................................................................... 73

4.1.2 Product Distribution and Acquisition of New Assets ............................................. 74

4.1.3 Operations and Efficiency....................................................................................... 74

4.1.4 Financial Summary ................................................................................................. 75

4.2 Strategic Option 2: Distribute to Emerging Markets ..................................................... 76

4.2.1 Product .................................................................................................................... 76




4.3 Strategic Option 3: Become a Service Provider to Portfolio Managers ......................... 79

4.3.1 Product .................................................................................................................... 79


vii



4.4 Options Evaluation and Recommendation ..................................................................... 83

4.4.1 Evaluation Criteria .................................................................................................. 83

4.4.2 Combined Option Evaluation and Summary .......................................................... 86

5 Feasibility Analysis of the Strategic Options........................................................................ 88

5.1 Strategic Option 1: Focus on Retirement Based Product ............................................... 88

5.1.1 Managerial Requirements and Gaps ....................................................................... 88

5.1.2 Organizational Requirements and Gaps.................................................................. 89

5.1.3 Resource Requirements and Gaps .......................................................................... 91

5.2 Strategic Option 2: Distribute to Emerging Markets ..................................................... 92


5.2.2 Organizational Requirements and Gaps.................................................................. 93

5.2.3 Resource Requirements and Gaps .......................................................................... 95

5.3 Strategic Option 3: Become a Service Provider to PMs ................................................ 98


5.3.2 Organizational Requirements and Gaps................................................................ 100

5.3.3 Resource Requirements and Gaps ........................................................................ 102

5.4 Feasibility Summary .................................................................................................... 104

6 Final Recommendation ....................................................................................................... 106

6.1 Options Choice ............................................................................................................. 106

6.2 Timeline ....................................................................................................................... 107

Bibliography ............................................................................................................................... 108

Appendix A ................................................................................................................................. 109

Option 1 – Retirement Product ............................................................................................... 109

Option 2 – Emerging Markets ................................................................................................. 110

Option 3 – Become a Service Provider to Portfolio Managers ............................................... 111

viii

LIST OF FIGURES

Figure 2-1 Organizational chart. Source: Author ........................................................................... 3

Figure 2-2 Assets under management by client segment in 2011 and 2012. Source: Author. ....... 7

Figure 2-3: Product types as percent of total AUM. Source: Author. ............................................ 8

Figure 2-4: Revenue share across distribution channels. Source: Author. ................................... 13

Figure 2-5: Revenue by client segment in 2011 and 2012. Source: Author. ................................ 17

Figure 2-6: Dovos costs breakdown in 2012. Source: Author. ..................................................... 18

Figure 2-7: Costs breakdown in 2012. Source: Author. ............................................................... 19

Figure 2-8: Dovos EBITDA margins for 2011 and 2012. Source: Author. .................................. 19

Figure 2-9: Dovos strategic position. Source: Author. ................................................................. 20

Figure 3-1: Canadian mix of AUM for institutional and private Clients. (Investor Economics,

Fall 2012) ...................................................................................................................................... 28

Figure 3-2: Industry supply chain. Source: Author. ..................................................................... 30

Figure 3-3: Number of investment managers by AUM in 2009 and 2012. (Investor Economics,

Fall 2012) ...................................................................................................................................... 31

Figure 3-4: Total AUM share by manager size. (Investor Economics, Fall 2012) ...................... 32

Figure 3-5: Total Canadian AUM share by manager category. (Investor Economics, Fall 2012)

....................................................................................................................................................... 33

Figure 3-6: Canadian population age demographic over time. (Statistics Canada, May 2010) .. 46

Figure 3-7: Global assets under management over time. (McKinsey & Company, June 2012) . 54

Figure 3-8: Total global financial assets over time. (McKinsey & Company, June 2012) ......... 54

Figure 3-9: Investment manager share of global financial assets. (McKinsey & Company, June

2012) ............................................................................................................................................. 55

Figure 3-10: North American investment management profit pools over time. (McKinsey &

Company, October 2012) .............................................................................................................. 68

Figure 3-11: Net flows as percent for geographic regions. (McKinsey & Company, June 2012)

....................................................................................................................................................... 69

ix

LIST OF TABLES

Table 2-1: Manufactured Dovos pooled funds breakdown by AUM in 2012. Source: Author...... 9

Table 2-2: Outsourced Dovos pooled funds. Source: Author ....................................................... 11

Table 3-1: Industry overview. Source: Author. ............................................................................ 29

Table 3-2: Forces driving the industry. Source: Adapted by Author. ........................................... 50

Table 3-3: Sources of competitive advantage. Source: Author. ................................................... 60

Table 3-4: SWOT analysis. Source: Author. ................................................................................ 71

Table 4-1: Option 1 financial summary. Source: Author. ............................................................ 76



Table 4-4: Strategic option preference analysis. Source: Author. ................................................ 87

Table 5-1: Strategic options feasibility summary. Source: Author............................................. 105

Table 6-1: Strategic option implementation timeline. Source: Author. ...................................... 107

1

1 Introduction

This paper is a strategic analysis of Dovos Capital Management1, a boutique investment

company operating in Vancouver, British Columbia. Dovos has been operating for over 20 years

and it is now experiencing increased pressures driven by market forces. The company must adapt

and grow or face an uncertain future. The investment industry in Canada is experiencing rapid

change, driven by economic, demographic, regulatory and technological changes. Business

models from past decades are no longer competitive and market forces have created new

opportunities which companies can take advantage of.

The paper strives to answer the question of how Dovos can reverse some recent setbacks and

grow its revenue while faced with the challenges of a stagnant market and increased competition.

The analysis is divided into six major sections. The first introduces and provides an overview of

the company. The second section discusses the company’s own position, current strategy and

strengths. The third section examines the external environment, how the company compares

against its competitors and what trends are shaping the competitive landscape. It also includes an

analysis of Porter’s Five Forces in the industry. The fourth section constructs and ranks strategic

options which address the company’s needs and fit with the internal and external realities. The

fifth section analyzes the options for their feasibility. The sixth section selects one of these

options as the final recommendation and provides an implementation roadmap.

1 Dovos Capital Management Inc. and several other company names are fictional. Some identifying details have also

been changed in order to hide the company’s true identities.

2

2 Organization’s Current Position

2.1 Company Overview

Dovos Capital Management Inc. is a small, privately owned investment company managing over

$1.2 billion in assets. The company’s own products consist of financial planning services and

equity investments in Canada, the United States and Developed Markets. The company

outsources, through sub-advisors, fixed income and Emerging Markets investments.

Additionally, Dovos offers pure research services to institutional clients who have their own

trade execution capabilities.

Dovos’ main office is located in downtown Vancouver, British Columbia with a virtual office

located in Calgary, Alberta for better servicing of its clients in central Canada.

2.1.1 History

Dovos Capital Management Inc. was founded in 1986 by three partners. The founding vision for

the company was to provide institutional level investment service to private individuals, who

typically only have access to consumer retail investment products.

During the 2008 financial crisis, Dovos was severely impacted by the collapse of asset backed

securities and the company weathered the storm by taking on significant liability. Over the past

five years, Dovos has reduced this liability to near zero, which has freed up resources that can

now be invested in the company or returned to shareholders.

3

2.1.2 Organizational Structure of the Company

There are 27 full-time and part-time employees working at Dovos, divided into 5 departments:

Investment, Sales and Client Service, Marketing, Administration and IT. Figure 2-1 lays out the

organizational and reporting structure of the company.

Figure 2-1 Organizational chart. Source: Author

Dovos has a 3 person Board of Directors with an Advisor to the Board. The CEO reports to the

Chairperson of the Board. The Chief Investment Officer (CIO), who is also the CEO, manages

the Investment Department. The President manages the Sales and Client Service Department and

the Marketing Department. The VP Operations and Technology manages the Administration

Department and the IT Department.

4

2.1.2.1 Investment Department

The investment department is tasked with conducting research and constructing portfolios as

well as with implementing the portfolios by executing trades through a 3rd

party professional

trade system. Additionally, the investment department is responsible for providing content for

some marketing brochures, market updates and client presentations.

2.1.2.2 Sales and Client Service

This is the largest department and it is responsible for retaining existing clients and for finding

new clients. The Sales side is composed of Portfolio Managers who, in addition to finding new

clients, are responsible for the overall portfolio strategy of each client. It is up to the Portfolio

Managers to work with the clients, understand their individual situations and to create complete

investment portfolios which fit with their goals.

The Client Service side is responsible for the execution of client requests such as deposits,

redemptions and transfers. They also provide assistance to the Portfolio Managers by preparing

reports, presentations and other client communications. The Client Service department is part of

what is referred to as the Back Office.

2.1.2.3 Marketing

The marketing department is very small and consists of one full-time writer and one part-time

graphic designer. It is their responsibility to create content which goes into brochures,

presentations, product pitches as well as to maintain the Dovos website, blog and other social

media presence.

5

2.1.2.4 Administration

The Administration department consists of 4 full-time and 1 part time employees. They are the

core of the Back Office and it is their responsibility to provide Fund Accounting services,

Compliance, Corporate Accounting and Trade processing and settlement. The Administrative

department is also the primary body whose output is audited annually by Ernst & Young, a 3rd

party auditor, to ensure that Dovos satisfies provincial and federal legislative requirements.

2.1.2.5 IT

The IT department consists of 3 full-time employees. The department is divided into two

functional areas: Network Administration and Application Development. The Network

Administrator is responsible for maintaining, upgrading and improving the company’s core

technical infrastructure. Dovos’ quantitative research methodology requires a significant

investment in technology, including professional grade databases, servers and connections to

market data vendors.

The Application Development team consists of 2 people who are responsible for implementing

and improving Dovos tools. These tools automate Back Office tasks and connect Dovos to 3rd

party service providers such as custodians and data vendors. Additionally, the application

developers are constantly enhancing the client portfolio management and accounting software so

that the Client Service team can be flexible in fulfilling client needs.

2.1.2.6 Independent IT Contractors

Dovos employs IT contractors as needed for specific projects which require skills and expertise

not possessed by the IT staff. The most significant of these relationships is the extended contract

for development of proprietary Investment Research and Modeling technology. It is through this

technology that Dovos competes with other investment managers which makes it critical.

6

2.2 Overview of Dovos Customers

Dovos customers can be divided into two major market segments (Silk, 2006) based on their

characteristics: Private Investors and Institutional Investors.

2.2.1 Private Investment Clients

These are families or individuals with over $500,000 in investable assets. They are primarily

concerned with retirement savings and providing for their own and their family’s future. Most of

them value service, predictable investment returns and trusted relationships.

2.2.2 Institutional Investor Customers

These are pension funds, foundations, insurance companies or large investment companies which

are outsourcing all or segments of their portfolios. The pension funds and foundations are

typically interested in the protection of their capital from market losses, transparency and

planning for their forecasted liabilities.

These customers can be further segmented based on whether they require the investment

products to only hold companies which are Socially Responsible or whether they can hold any

company. The customers who do require Socially Responsible Investments (SRI) also require

specialized commentary and guarantees that all of their holdings meet ethical criteria. The SRI

customers account for about 11% of the total revenue.

Insurance companies and large investment companies who outsource parts of their strategy to

Dovos are primarily interested in returns against their policy benchmark. These customers are

7

least interested in relationship building and are most likely to leave if the investment results fall

below set expectations.

The customer “assets under management” relative breakdown is shown in Figure 2-2.

Figure 2-2 Assets under management by client segment in 2011 and 2012. Source: Author.

The chart shows a reduction of $445,000,000 in AUM from the Insurance and Investment and

the Pension or Union clients. This loss represents 28% of the total AUM and was caused by 3

large clients leaving Dovos. This is discussed further in the section outlining the revenue model

and the current challenges.

2.3 Overview of Dovos Products

Dovos manufactures the majority of its product as measured by percent of total AUM, with a

portion of the product being outsourced to sub-advising partners. The Dovos manufactured

products are composed of Pooled Funds and individual custom portfolios referred to as

Segregated Assets. Figure 2-3 shows the proportional share of total AUM by Dovos product

types.

0

200,000,000

400,000,000

600,000,000

2011 2012

Assets Under Management

Wealth Management

Aboriginal

Foundation

Insruance and Investment

Pension or Union

8

Figure 2-3: Product types as percent of total AUM. Source: Author.

2.3.1 Products Manufactured at Dovos

Dovos is an equity specialist and therefore its entire manufactured investment product lineup is

composed of equities in Canada, United States and Developed Markets. The investment

mandates of the individual pools are designed to provide basic building blocks for Portfolio

Managers to meet individual client asset mix needs. In addition to Pooled Funds which hold

equities, Dovos also provides the Balanced Fund which is a mix of specific individual Pooled

Funds or a “Fund of Funds”. The Balanced Fund is designed to fit most common private

customer needs and provides a great foundation for most private portfolios. Table 2-1 shows

pooled funds manufactured at Dovos.

46%

30%

24%

Total AUM by Product Type

Genus Pooled Funds

Outsourced Pooled Funds

Segregated Assets

9

Pooled Fund

(Component) Name

Pooled Fund Mandate or Strategy Percent of Total

AUM

Core Products

Dovos Canadian Equity Pure Canadian equity fund. Uses core Alpha

strategy 2%

Dovos Canadian T-Bill Cash equivalents fund. Used to provide

immediate liquidity 2%

Dovos GlobeCan Equity Canadian, US and Developed Markets Equity

strategy 14%

Dovos Dividend Equity Canadian, US and Developed Markets

Dividend income focused strategy 20%

Dovos Global Equity US and Developed Markets Equity strategy 4%

Specialty Products

Dovos Balanced Fund Fund of Funds. Mix of Core Products

designed for typical private investor. 4%

Dovos Biosphere Plus

Canadian Equity

Socially Responsible Canadian Equity core

Alpha strategy.

Required by some Foundations.

2%


Global Equity

Socially Responsible Developed Markets

core Alpha strategy.

Required by some Foundations

2%

Table 2-1: Manufactured Dovos pooled funds breakdown by AUM in 2012. Source: Author.

In addition to Pooled Funds, Dovos creates customized individual portfolios called Segregated

Portfolios for larger clients who require a unique strategy or who simply have sufficient assets to

afford direct stock ownership. These Segregated Portfolios typically follow one of Dovos’ Core

strategies with some small specialized changes around exposure to Risk, Market Volatility or

other factors.

10

Dovos also provides the majority of its customers with the asset mix designed to fit with their

individual needs. The asset mix is optimized for asset geographic exposure and asset class.

Additionally, Dovos makes the funds available for purchase on an individual basis in order to

accommodate some institutional customers, who wish to retain the asset mix responsibility.

In addition to directly investing customer’s money through funds or segregated portfolios, Dovos

also provides some institutional customers with Guided Portfolios or Separately Managed

Accounts (SMA). These clients receive only the stock choices, and it is up to the clients

themselves to trade the securities. This is most commonly used as an outsourcing mechanism by

large investment institutions such as Scotia Bank. These SMA portfolios allow the institution to

purchase specialized investment mandates and to diversify their own investment product lineup.

2.3.2 Products Outsourced to Dovos Partners

Dovos outsources the investment of Fixed Income and Emerging Markets products to sub-

advising partners in order to compensate for its specialization in equity and geographic products.

Table 2-2 shows the pooled funds outsourced to Dovos sub-advisors. The fees collected on these

products are split between Dovos and the sub-advising partner.

11

Pooled Fund

(Component) Name

Pooled Fund Mandate or Strategy

Percent of Total

AUM

Fixed Income Products Provided by Sunmont Capital


Bond

Socially Responsible Fixed Income Strategy.

Required by some Foundations. 3%

Dovos Canadian Bond Canadian Fixed Income strategy. 3%

Dovos Short-Term

Corporate Bond

Global Corporate bond strategy designed for

higher yields at higher risk. 4%

Dovos Strategic Bond Global Fixed Income strategy designed for

minimal risk. 13%

Dovos Commercial

Mortgage

Canadian Commercial Mortgage Fixed

Income diversification strategy. 5%

Other Products Provided by Bernstein Capital

Dovos Emerging Markets Emerging Markets aggressive growth

strategy. 2%

Table 2-2: Outsourced Dovos pooled funds. Source: Author

2.3.3 Product Categories by Investment Strategy

The general strategy used to manage the money and the outcomes expected by the clients are an

important horizontal differentiation (Silk, 2006) of the products.

2.3.3.1 Absolute Growth Focused

These products are typically aimed at private investors. They are based around the Balanced

Fund and are focused on growing assets over the long term for eventual withdrawal at retirement.

The Balanced Fund is composed of the other funds and so its performance is heavily influenced

by the performance of the other strategies such as the Income Focused and Benchmark Focused

strategies.

12

2.3.3.2 Income Focused

These products are typically aimed at Foundations and Pension Funds. They are based around

the Dividend Fund and Fixed Income Funds and are focused on providing the investor with a

steady and reliable income from the assets without depleting them. They are also a good match

for retired individuals living off their savings.

2.3.3.3 Benchmark Focused

Benchmark focused products are also referred to as Core Alpha. These products are typically

aimed at Institutions and some Pension Funds. They are based around closely following and

outperforming market indexes. The performance is always reported relative to whatever

benchmark was selected. These benchmarks are typically mixes of Equity Indexes such as the

S&P TSX. In order to control the investment’s risk, the investing client typically places hard

constraints on how much the product can vary from the benchmark in its holdings. While this

does tie the risk to the market, it also limits the ability for the investment manager to

significantly beat the benchmark.

2.3.4 Product Distribution Channels

Dovos distributes its products through a number of channels. Figure 2-4 illustrates the revenue

share across distribution channels.

13

Figure 2-4: Revenue share across distribution channels. Source: Author.

2.3.4.1 Direct Sales by Portfolio Managers

This distribution channel has been used by Dovos exclusively for the first 15 years of the

company’s existence and it accounts for 93% of the revenue. It is a form of personal selling

(Silk, 2006) and it consists of the Portfolio Managers making direct connections with clients. The

advantage of this channel is that Dovos realizes maximum profit per AUM. The disadvantage of

this channel is that revenue growth is limited by the number of Portfolio Managers, their

personal contacts and the time they have to personally sell Dovos products. Additionally, each

Portfolio Manger’s personal selling time is diminished by each client they acquire and have to

service going forward.

2.3.4.2 Referral Partner Program

This distribution channel has been launched by Dovos over 2 years ago with little effort put into

growing the channel until late 2011. The Partner Program accounts for only 4% of current

revenue, however, it accounted for approximately 33% of new clients in 2012. This figure is

0.0%

25.0%

50.0%

75.0%

100.0%

Distribution Channel Share of Revenue

Direct PM Sales

Partner Program

SMA

Offering Memorandum

14

expected to grow to over 50% in 2013. The referral program is a form of indirect promotion

(Silk, 2006) and it works by signing formal referral agreements with individuals and companies

who have a trusted relationship with institutions and private investors. As compensation for the

referral, each partner receives a portion of fee revenue in perpetuity. The majority of this referral

fee comes from the Portfolio Manager’s revenue portion. This is an excellent opportunity for

accountants, lawyers and insurance brokers to make additional money from their existing client

relationships.

The advantage of this channel is that Dovos Portfolio Managers get exposed to many new

prospects without having to spend personal time sourcing them.

The trade-off for the Partner Program is a reduced profitability from referred clients, as a portion

of the revenue is passed on to the referring partner in perpetuity.

2.3.4.3 Separately Managed Assets (SMA)

This distribution channel has been launched by Dovos over 3 years ago; however, its biggest

growth was in 2012. It accounts for around 3% of total revenue. The SMA clients are typically

institutions which resell the investment product to their own retail clients. The SMA product is

different from traditional investment management in that Dovos is not actually making the trades

and managing the invested assets. Instead, Dovos sends monthly or quarterly updates of the

portfolios to its SMA clients, who then implement their own trading. The SMA model greatly

reduces Dovos’ costs and risks associated with the portfolios as there are no trades which have to

be executed.

The trade-offs of this distribution channel are that Dovos does not have any direct relationships

with the final purchasing clients and it does not fully control the final implemented performance

15

of the portfolio. Without the relationships, the demand for the SMA product is driven primarily

by performance which is partially out of Dovos’ control.

2.3.4.4 Funds Distributed Under Offering Memorandum.

This distribution channel has been launched at the very end of 2012 and does not yet have any

revenue. The Offering Memorandum (OM) funds distribution channel makes specific Dovos

pooled funds available to other investment managers or independent portfolio managers at

whole-sale prices, so that they can re-sell them to their own retail clients. It allows Portfolio

Managers across Canada to invest their client’s money in Dovos pooled funds and it gives Dovos

the widest exposure to the investable assets of potential new retail clients. At the same time,

unlike with the SMA distribution channel, Dovos maintains full control over the product’s

performance.

The trade-off of this distribution channel is similar to the one for the SMA. Dovos does not own

any of the retail client relationships and so the money invested with any Dovos OM fund will be

controlled by Portfolio Managers who are not motivated to keep the assets invested with Dovos.

The second major trade-off is that the Dovos OM pooled funds will be competing against

thousands of other mutual funds available to the independent Portfolio Managers, which means

that their value proposition must clearly set them apart.

The third trade-off is similar to the one for the Partner Program in that Dovos will have to charge

lower, wholesale management fees so that the independent Portfolio Managers can add their own

fee markup.

16

2.4 Financial Overview of the Company

2.4.1 Revenue Analysis

Dovos generates revenue by collecting quarterly fees as a percentage of the AUM. The fee

percentage per client decreases as the assets increase which is effectively a bulk purchase

discount. Additionally, different customer segments are charged at different rates based on their

typical account sizes and willingness to pay. Compared head to head, a single private individual

account requires slightly less support work than a single institutional account. While private

clients do require personal attention, institutional clients have stricter reporting requirements and

demanding multi-person boards. Private individuals have much smaller average accounts than

institutions. The average private account size is around $500,000 while the average institutional

account is around $10,000,000. Therefore the amount of support work required by the same

amount of private AUM is roughly 20 times greater than the amount of support work required by

institutional AUM.

In addition to investment performance, private individuals are motivated by the personal

relationship with the Portfolio Manager. This is a form of differentiation and it allows Dovos to

charge higher fees. Since institutional clients are primarily motivated by performance and not the

relationship, they are more likely to look for the best product at the lowest fee.

When combined, these two factors allow the private client fee schedule to be higher than the

institutional fee schedule and they make the Private Wealth Management accounts higher

revenue generators per AUM than Institutional accounts.

17

Figure 2-5: Revenue by client segment in 2011 and 2012. Source: Author.

Figure 2-5 shows the revenue breakdown by customer segment and the revenue decline caused

by the reduction of Institutional customer AUM. Due to the different rates between Private and

Institutional customers, the revenue decline of 12% is not as dramatic as the AUM decline of

28%. Revenue from the other segments has increased, but not quickly enough to offset the

losses. Typical annual budgets set the revenue growth target to 3% per year, which has not

happened in the past year.

2.4.2 Costs Analysis

Staff compensation is the dominant portion of costs with a total 64% in 2012. Staff compensation

is a combination of fixed salary, commission for Portfolio Managers, bonuses and benefits. Sub-

Advisor fees are a percentage of revenue generated by outsourced products and referred clients.

Fees and Licenses include all professional fees, legal fees, audit costs and software licenses.

Office Operations covers all costs associated with running the office including rent, insurance,

phones and internet. Client Service and Marketing includes all direct marketing costs, travel,

-

2,500,000

5,000,000

2011 2012

Revenue

Wealth Management

Aboriginal

Foundation

Insurance and Investment

Pension or Union

18

marketing materials print costs, client statement print costs and company website. It is important

to note that in the past year, Dovos spent only 4% of total costs on marketing and sourcing new

clients excluding staff compensation. Dovos’ costs and expenses break-down for the most recent

year is illustrated by Figure 2-6.

Figure 2-6: Dovos costs breakdown in 2012. Source: Author.

In order to deal with the decrease in total revenue in 2012, Dovos implemented cost cutting

measures. Figure 2-7 illustrates the changes in costs from 2011 to 2012.

64%

11% 10% 11% 4%

0%

25%

50%

75%

2012

Cost Breakdown in 2012

Staff Compensation

Sub-Advisor Fees

Fees and Licenses

Office Operations

Client Service and Marketing

19

Figure 2-7: Costs breakdown in 2012. Source: Author.

All costs have been decreased with the exception of Sub-Advisor Fees which increased in 2012.

The increase is due to a greater number of referral clients and thanks to a new Sub-Advising

agreement with Bernstein Capital for an Emerging Markets fund. These changes have protected

the margins from 2011 to 2012 as illustrated in Figure 2-8; however they have also reduced the

company’s ability to find new clients.

Figure 2-8: Dovos EBITDA margins for 2011 and 2012. Source: Author.

$-

$2,500,000

$5,000,000

Cost Change from 2011 to 2012

2011

2012

0%

5%

10%

15%

20%

25%

2011 2012

EBITDA Margins for 2011 and 2012

20

2.5 Strategic Position of the Company

2.5.1 Dovos’ Strategic Scope

Figure 2-9: Dovos strategic position. Source: Author.

The scope of where Dovos competes is illustrated in Figure 2-9. Dovos is vertically integrated

from product manufacturing to distribution. Outsourcing is used for services which require

complex regulatory facilities such as being the custodian of assets as well as some commodity

services such as daily fund valuation.

The company is highly specialized with investment management being the only service it

provides. It is diversified over its client demographics through servicing both private and

institutional clients. The company is highly localized with a single physical office in Vancouver

and a virtual satellite office in Calgary, both of which target Canadian clients.

21

2.5.2 Dovos’ Strategic Value Proposition

Dovos competes for its customers by trying to focus in on a small number of specific product

quality factors.

2.5.2.1 Investment Risk Reduction

Dovos investments are designed to avoid and mitigate market risk. This comes at the price of

dampened performance when the market is bullish; however, it has the benefit of significantly

reducing losses when the market is bearish. This strategy is based on research which shows that

over longer periods of time, strategies which have medium performance on the upside but

consistently avoid large draw downs, outperform strategies which alternate between great returns

and big losses. The marketing tag line is “make money in the long run by not losing money in the

short run.”

2.5.2.2 Advanced Portfolio Customization with Back-Testing

Dovos has the ability to highly customize portfolios according to client needs. This is very

difficult or impossible for independent or small investment managers. The customization can be

quite complex and involves placing thresholds on risk exposure, sectors, trades, yield and how

closely the benchmark index is followed. Furthermore, these customized strategies can be back-

tested to show how they would have performed over many years. This allows the client and

Dovos to collaborate on an optimal custom strategy which meets the client’s needs.

2.5.2.3 True Segregated Portfolios for Large Clients

Larger private clients and medium to large institutional clients have the option of investing their

money in segregated holdings instead of pooled funds. The advantage of a segregated portfolio is

that the client is the actual holder of the underlying assets, which is not the case with Pooled

22

Funds. Any client invested in a Pooled Fund holds units of the fund, and the fund holds the

underlying securities. If for some reason the Pooled Fund goes bankrupt or is incorrectly

accounted, the client may end up holding worthless units. This is never the case with segregated

holdings where the client is always the holder of the actual securities. For those clients, even if

Dovos disappears overnight, their holdings are completely secure with 3rd

party custodians such

as Royal Bank of Canada Investment Services.

2.5.2.4 Deep Relationship Building and Added Value Service for Private Clients

Dovos encourages its private clients to build deep relationships with the Portfolio Managers.

Given that trust is a very important aspect of the relationship, a Dovos client can get to know the

Portfolio Manager and the company well. This includes clients having the option to meet key

staff, visit the back-office and have the Portfolio Managers visit them at home. This commitment

to personal relationships makes the private clients feel more appreciated and attached to the

company. It also allows the Portfolio Managers to have a better understanding of the client’s true

needs.

The Client Service team provides some extra services which are not available at normal retail

investment managers. For example, Dovos produces a detailed tax report every quarter which

allows the client’s accountant to plan their annual tax strategy as the year progresses instead of

having to wait for the very end of the year.

The Client Service team at Dovos is committed to meeting the client needs even when they fall

outside of the standard operations. For example, if a customer needs to redeem funds on an

accelerated schedule, the Client Service team will accommodate if possible.

23

2.5.3 Dovos’ Strategic Investment

Dovos has made a number of choices and investments which are meant to support its value

proposition.

2.5.3.1 Controlling the Costs

Dovos has been consciously keeping its costs suppressed so that it has a cost advantage when

pricing its product. The cost strategy is implemented through the following processes.

Dovos is always trying to build its annual budget to achieve a margin target of 30%. This

naturally curbs any spending which is not truly necessary.

Dovos office space has a no-frills feel and finish. While it is professional and clean, Dovos has

avoided expensive furniture and decorations which are common at many other investment

managers. In addition to keeping the costs down, it signals to our clients that we are serious

about keeping our fees low and not wasting their money.

Additionally, Dovos is heavily investing in improvements of automation and efficiency. The

constant overarching goal is to do more work with fewer people. For example, in 2010, the

monthly portfolio complete rebalance process required an IT professional for 2 weeks every

month to load and prepare the market data and to run the models. By 2012 this has been reduced

to 2 days per month.

The IT department has a number of cost controlling policies including recycling of workstations

from the investment staff that need high-end machines, through the Back Office staff that can use

mid-tier machines all the way to the Portfolio Managers and receptionist who can use low-end

machines.

24

2.5.3.2 Extensive Quantitative Research Capability

Dovos has built an advanced quantitative research lab which is capable of conducting complex

portfolio and strategy simulations over decades of past market data. The lab consists of 3

researchers, 3rd

party industry software, 3rd

party global market data and Dovos custom

technology. The lab allows Dovos to research its own investment product and it allows Dovos to

design and test custom client strategies which can have a variety of complex restrictions and

requirements.

2.5.3.3 Extensive Research of Low-Volatility-High-Yield Strategies

Over the past couple of years, the Dovos investment team has spent considerable time

researching and modeling Low Volatility High Yield strategies. This approach has been gaining

momentum in the investment industry and Dovos has been at the forefront of the thinking since

the beginning. By focusing on these steady returns strategies which avoid sharp downturns,

Dovos can play into the long-term thinking of safety conscious clients.

2.5.3.4 Opening up New Distribution Channels

Over the past year, Dovos has made an effort to open new distribution channels and to invigorate

existing ones. By investing time into the Partner Program, the SMA portfolios and registering the

Offering Memorandum funds, Dovos is mitigating the risk of having all of its revenue growth

tied to the three Portfolio Managers on staff.

2.5.3.5 Reusing of Research

Through its use of investment technology, the Investment Team can easily repurpose its research

efforts. One of the core products is a ranking of stocks on several characteristics, referred to as

Alpha, which can be applied to different portfolios. For example, for portfolios which need lower

25

risk, the researcher will start with the complete Alpha stock list and then apply a specialized Low

Volatility Screen which removes volatile stocks. Through multiple screens and other more

advanced techniques, the initial complete stock ranking list can be quickly transformed into

many different, specialized portfolios.

2.5.3.6 Flexible Custody Arrangements

Dovos has cultivated relationships with multiple custodians such as Royal Bank of Canada

Investor Services, Scotia Bank and TD Waterhouse which gives it the flexibility to hold client

assets in pooled funds, lower-cost semi-segregated portfolios or premium cost, true segregated

portfolios.

2.5.3.7 Client Service Oriented Culture

The entire organization is geared towards serving the client’s needs and requests. Dovos has

cultivated a culture where staff will do their best to fulfill a client request if at all possible.

The entire investment team, including the CIO, as well as the Back Office operations team is

available to clients to interact with. This allows investment savvy private clients and professional

institutional investors to get a deeper understanding of the Dovos investment strategy and how it

fits their needs. While institutional clients are used to this service, private clients rarely get this

level of exposure unless they are truly wealthy.

Dovos retains experts to conduct client seminars on finance related topics. In the past, this

included topics around estate planning, insurance and major economic trends. These seminars are

complimentary and the summary notes are available to anyone who was not able to attend.

26

2.6 Current Issues Facing the Company

There are a number of issues Dovos is facing at this time.

2.6.1.1 Declining Revenue and Profits

Dovos has experienced a decline in profit over the past 3 years. Customers have left at a higher

rate than new customers were acquired. As a result, Dovos is managing fewer assets now than it

has in the past. This is most apparent with the departure of large Institutional clients who

represented a significant portion of the AUM.

Although the company is still profitable and will continue to be so in the near future, it is clear

that the current trend is not sustainable. If it is not reversed, the company will not be able to meet

its obligation to shareholders and it will have to be sold or face bankruptcy. The company

owners have set a target of 30% margins.

2.6.1.2 Benchmark Focused Core Alpha Canadian Product Underperforming

The Benchmark Focused Core Alpha product, which has been one of the main pillars of the

Dovos product lineup, has underperformed for the past 3 years. As a result, key Core Alpha

customers have left and they account for over 94% of the AUM lost from 2011 to 2012.

Additionally, the sales team has a very difficult time attracting new clients looking for Core

Alpha. These models are shared between the different product lines, which means that portions

of the Wealth Management product performance has also been weaker than many competitors.

The balanced mandate and the global mandates have both performed on par with average

investment managers. This makes these mandates neither specifically attractive nor unattractive;

however, it opens Dovos up to strong competition from top performers.

27

2.6.1.3 Demographic Risk from its Portfolio Managers Retiring

All of the current Portfolio Managers are nearing retirement age. Given that the Private

Investment business is relationship driven, Dovos faces a massive risk of clients departing when

the Portfolio Managers begin to retire.

2.6.1.4 Reinvestment into the Company

At this time, the shareholder directive is to pay out maximum possible dividend leaving little net

income for re-investment into the company. This cash-cow approach has worked in the past. The

question which has to be answered is whether this minimal re-investment policy is sustainable as

the environment changes.

2.7 Summary

As demonstrated in this section, the current Dovos business strategy has experienced setbacks

over the past two years and more importantly, it is open to further setbacks if no adjustments are

made. When mapped onto a Crisis Curve (Crossan, Rouse, Fry, & Killing, 2013), the urgency

can be described as Reactive, given that the company is currently profitable. If the company

strategy is not addressed, it will slide into Crisis.

The following section will examine the external environment in which Dovos operates and it will

analyze how external forces are impacting the business future at Dovos.

28

3 Analysis of Factors External to the Company

3.1 Industry Overview

The industry definition is constrained to primarily Canadian clients who are looking for

traditional investment services, implemented through Equity and Fixed Income. The two

separate client segments of private individuals and institutions will be treated as belonging to one

industry with relevant differences discussed where appropriate. Figure 3-1 shows the Canadian

investment industry breakdown by client segments and their investments for institutional and

private investors in 2012.

Figure 3-1: Canadian mix of AUM for institutional and private Clients. (Investor Economics, 2012) (Investor Economics,

2012)

Institutional and private sides are very close in size with $1,147 billion and $1,073 billion in

invested assets respectively. The institutional clients are dominated by pensions while the private

clients are dominated by investment funds also known as mutual funds.

0

200

400

600

800

1000

Canadian AUM Mix by Investment Type in 2012

Pensions

Insurance and Corporate

Not-for-profit

Investment funds

Private Investment Counsel

Discretionary brokerage

29

3.1.1 Industry Structure

Suppliers Competitors Customers

Stock and Bond issuing

organizations:

Ex. IBM, Gov of Canada

Dovos Capital Management Medium and High net worth

individuals

Stock exchanges:

Ex. TSX, NYSE

Banks and Credit Unions

Ex. RBC Wealth Management,

ING eSavings Account

Pension Funds and Foundations

Financial data vendors:

Ex. S&P, Thomson Reuters,

Bloomberg

Private Investment Counsel

Firms

Ex. Leith Wheeler

Large institutions looking for

Specialist Investment Managers

Financial Research vendors:

Ex. Axioma, Macquarie

Hedge Fund Investment Firms

Ex. Front Street Capital

Brokers:

Ex. Goldman Sachs

Self directed investing

Ex. iTrade, RBC Online

Software and Service Vendors:

Ex. ITG, Omgeo

Custodians:

Ex. Royal Bank Investment

Services, Scotia Trust

Banks:

Ex. Royal Bank, TD

Portfolio Manager:

Ex. RBC Wealth Management

Auditors and Lawyers:

Ex. Ernst & Young, Borden

Ladner Gervais

Table 3-1: Industry overview. Source: Author.

30

Table 3-1 summarizes the industry structure by listing the suppliers, competitors and customer

types. Each type is accompanied by some representative companies.

3.1.2 Industry Supply Chain

Figure 3-2: Industry supply chain. Source: Author.

Figure 3-2 illustrates the industry supply chain by showing how the different types of suppliers

interact. The value chain starts on the left side with the industry’s raw products and finishes on

the right side with the customer. There are five major groupings. Primary investment vehicle

manufacturers are in purple. Core trade service providers are in blue. Investment support services

are in gray. Investment managers are in green. Customers are in orange. Each one of these

categories is discussed in detail in the following sections.

31

3.2 Analysis of Competitors

The investment industry is highly competitive with a large number of competitors and product

alternatives.

3.2.1 Competitor Composition

Investment managers in Canada can be segmented according to the size of their AUM. This

division is illustrated by Figure 3-3.

Figure 3-3: Number of investment managers by AUM in 2009 and 2012. (Investor Economics, 2012) (Investor Economics,

2012)

In 2012 there were 179 managers registered in total with 86 of them managing under $1 billion.

Dovos fits in the second bucket with AUM between $1 billion and $5 billion and is one of 49

managers at that size. The relative market share of the managers by AUM size is illustrated by

Figure 3-4.

0

20

40

60

80

100

< 1 billion 1 - 5 billion 5 - 10 billion > 10 billion

Number of Managers by Manger Size

2009

2012

32

Figure 3-4: Total AUM share by manager size. (Investor Economics, 2012) (Investor Economics, 2012)

Overall the market share split has remained largely constant from 2009 to 2012, with the biggest

managers taking some market share away from the 1-5 billion AUM companies. The increase in

the total number of investment managers combined with the stagnant or decreasing market share

for the Dovos sized firms indicates both an increase in competitive pressure and a difficulty in

growing.

3.2.2 Competitor Strategic Grouping

The investment industry competitors can be grouped by category and compared against their

AUM. Figure 3-5 shows the categories over time.

0%

10%

20%

30%

40%

50%

60%

70%

80%

< 1 billion 1 - 5 billion 5 - 10 billion > 10 billion

Total AUM Share by Manager Size

2009

2012

33

Figure 3-5: Total Canadian AUM share by manager category. (Investor Economics, 2012) (Investor Economics, 2012)

The largest category is “Other money managers” which includes companies like Dovos. This

category has seen some growth in market share since 2009. The second largest category is

composed of the six big Canadian banks: The National Bank of Canada, The Royal Bank of

Canada, The Bank of Montreal, The Bank of Nova Scotia, The Canadian Imperial Bank of

Commerce and TD Canada Trust. The big six banks category has seen the biggest growth of its

market share since 2009.

0%

10%

20%

30%

40%

50%

2009 2011 2012

Total AUM Share by Manager Category

Bix six banks

Insurance Companies Major fund companies Other money managers

34

3.2.3 Competitor Grouping Details

3.2.3.1 Big Six Banks, Other Banks and Credit Unions

Product

Wide variety of manufactured investment funds some of which may be

outsourced.

Distribution of other retail investment products as needed to fill own

product gaps.

Individual stock purchases.

Basic savings accounts.

Services

Most other financial services such as financial planning, banking, loans,

insurance.

Little personalization except for the largest clients and private banking

clients

Larger banks offer self serve online investment portals

Access to Potential

Investment Clients

High through other banking services.

Target Customers Low to high net worth private investors and institutional investors.

Size Large to very large.

35

3.2.3.2 Insurance Companies

Product Typically own branded funds which are either manufactured or outsourced.

Limited selection.

Services Insurance and some Financial Planning.

Little personalization.

Access to Potential

Investment Clients

High by targeting existing insurance clients.

Target Customers Low net worth private investors

Size Medium to large

3.2.3.3 Major Fund Companies

Product

Wide variety of own branded funds which are either manufactured or

outsourced.

Typically no access to external investment product.

Product is distributed by dedicated brokers and independent brokers.

Services Financial Planning.


Access to Potential

Investment Clients

Medium through dedicated and independent brokers.

Target Customers Low to medium net worth private investors

Size Medium to large

36

3.2.3.1 Independent Broker Investment Management Firms

Product Reselling of a wide variety of 3rd

party products manufactured by fund

companies and independent investment management firms.

Services Financial planning and frequently insurance, tax planning


Access to Potential

Investment Clients

Low. Each new client has to be sourced or referred to the firm.

Target Customers Low to medium net worth private investors

Size Small to medium.

3.2.3.2 Independent Investment Management Firm

Product

Manufactured own investment product which is typically specialized to

some niche. For example, Canadian Equity or Real Estate Income Trusts.

Distribution of outsourced product to fill own product gaps.

Distribution of own product through 3rd

party independent brokers.

Services Financial planning. Occasionally tax planning or insurance.

High personalization often available.

Access to Potential

Investment Clients

Low. Each new client has to be sourced or referred to the firm.

Target Customers Medium to high net worth private investors

Size Small to medium.

37

3.2.3.3 Alternative Investments

This broad category covers any other investment vehicles which may be used as an alternative to

more traditional investments. It includes but is not limited to:

Purchasing real estate

Investing in private equity

Offering direct loans

Direct purchase of precious metals

While these are not competitor firms, all investment management firms compete with alternative

investments for the customer’s investable assets.

3.3 Analysis of Customers

All customers can be segmented along a set of common characteristics which can be used to

evaluate their revenue potential. Through a careful analysis of each customer along these factors,

the company can focus its resources on the customers which are most likely to generate

maximum lifetime profit.

3.3.1 Customer Characteristics

3.3.1.1 Universal Customer Characteristics

Investment Requirements: The type of investment which is required by the customer. This is a

critical determining factor in whether a given investment manager is able to satisfy a specific

customer’s requirement. If a manager does not offer the required product, there is no opportunity

for a direct sale. There may, however, still be an opportunity for a referral to another firm.

38

Amount of Investible Assets: The amount of money a customer is able and willing to invest

with the company. Given that the revenue for an investment firm is directly tied to the AUM, this

is a very important factor in determining the lifetime value of the customer. At any given time,

the account size is the primary distinguishing characteristic of all customers.

Support Needs: A broad category which captures the amount of effort that will be required to

service the customer’s requests, in addition to the actual work of investing the money. This effort

can take different forms. For private customers, for example, this can be the customer’s need to

frequently discuss the investment policy. For institutional customers, this can take the form of

the complexity of the reporting requirements or the number of meetings required annually. The

Support Needs determine the resource drain a customer poses for the company which in turn

determines the net revenue generated by the customer.

Asset Growth Potential: The predicted deposits to and withdrawals from the invested assets by

the customer. For private individuals, this often reflects the client’s earnings, potential for

increased earnings over their career and motivation to invest their savings. For institutions, this

reflects their contributions, donations or liabilities. The key aspect of this factor is its ability to

predict the customer’s asset size over time, which drives their lifetime value.

3.3.1.2 Private Individuals Customer Characteristics

This group covers private investors and families who are investing their own personal holdings.

Decision Makers: The family members themselves typically make the investment decisions;

however, many private investors rely on the advice of trusted professionals such as accountants

or lawyers.

39

Age Demographic: Private clients are often long term, or even life-time clients. The age

demographic is an important factor governing how long the invested assets will stay with the

company. Pre-retirement clients typically have their peak assets right before retirement, which

means that the assets will be large at the beginning and then diminish over time. Middle aged and

younger clients are still building their assets. The assets will typically be small at the beginning,

increase over time as the client moves towards retirement age and then start diminishing again

once they retire.

Inheritance Potential: This is a specialization of the Asset Growth Potential which covers

customers who are likely to inherit significant investible assets in the future.

3.3.1.3 Foundations and Pension Funds Customer Characteristics

This broad group covers organizations which are charged with managing money that does not

belong to the decision makers. This money is frequently assigned a specific purpose, such as the

financing of a charity or the financing of retirement of the organization’s members.

Decision Makers: The governing body of the organization, which is typically a board of

directors, is the ultimate decision maker. These boards can be composed of volunteers or paid

professionals and they frequently employ professional advisors to assist with the selection of the

investment manager. This means that the investment reporting needs of the customers are

typically complex.

Full Mandate or Specialist: This governs whether the investment manager is hired to manage a

complete, multi-investment type mandate or whether it is hired to provide a specialized service.

Full mandates are typically more valuable as the investment manager has more latitude with the

customer and is more able to weather poor performance of specific investment components. With

40

a full mandate, the manager can make adjustments to the complete portfolio to emphasize

components which are performing well and de-emphasize components which are performing

poorly. The customer is also more tied to the investment manager as they are providing the

complete service.

With Specialist mandates, the manager is hired as a sub-contractor by another investment

manager, internal or external to the client, to provide a very specific product. For example, the

manager could be hired to provide a Canadian Equity Large Capitalization mandate. This

specialized relationship is more volatile than a full mandate for two reasons. First, if that one

component underperforms, then the sub-advising firm has no way of mitigating the

underperformance. Second, the investing client has someone else in charge of the whole

portfolio so it is easier for it to fire just the underperforming sub-advisor. For this reason, these

specialist mandates are less valuable than full mandates.

3.3.1.4 Fund Companies, Insurance Companies, Banks Customer Characteristics

These companies are both competitors and customers in the investment management industry.

For the purposes of client classification, all of these institutional investors can be grouped

together. They all typically hire investment manager firms to sub-advise specific mandates and

then they re-distribute these mandates to their end clients whose money is being invested.

These companies tend to be looking for investment product for fairly large mandates of

anywhere from $50 million to $1 billion. They combine it with other products and redistribute it

under their own brand. The relationship with the end client is completely removed from the sub-

advising investment manager. Most of the time, the end client is not aware that their money has

been outsourced to a sub-advisor.

41

These types of institutional clients tend to be sophisticated in their reporting and implementation

needs and they tend to not be influenced by the relationship with the sub-advisor. If the product

is not performing as well as anticipated, these clients will fire the sub-advisor with minimal

notice.

Managed Assets or Separately Managed Assets (SMA): Managed Assets are the standard

investment product where the sub-advising manager directly manages money and executes

trades. SMA mandates, on the other hand, are portfolio recommendations to be executed by

another investment team or broker. The relevant difference between these two is that with

Managed Assets the manager is fully responsible for the portfolio performance while with the

SMA mandates, the manager is only responsible for the performance of the theoretical paper

portfolio.

The SMA mandates are popular with brokers who wish to be purchasing individual stocks for

their clients instead of pooled funds, but who still wish to outsource the stock selection.

3.3.2 Customer Preferences Which Drive Purchasing Decisions

3.3.2.1 Universal Customer Preferences

There are a number of customer preferences which are common to all traditional investment

customers

Investment Track Record: Investment performance is typically reported as annualized returns

over long and short term investment horizons. Long term investment performance can be defined

as covering more than seven years and shows a firm’s performance through the ups and downs of

the markets. Short term investment performance can be defined as covering one or two years and

demonstrates how well a firm is able to navigate the present economic situation. While

42

customers understand that past performance does not guarantee future performance, a good past

performance track record is an indication of investment management skill which often influences

future performance.

Trust: This customer preference is universal and it is difficult to quantify. Fundamentally, an

investment customer must trust their investment services provider. For private individuals, this

often comes from having the investment manager referred to them by a friend or professional

acquaintance. For the decision makers at institutional customers, the trust can come from a

referral, from the advice of a professional advisor or through a personal relationship with

someone at the investment manager.

Investment Product Suitability: All investment customers have goals for their investments and

a personal preference of how to achieve those goals. The most fundamental preferences or

characteristics are

Time Horizon: How long the money can stay invested before it has to be redeemed.

Risk Tolerance: How much in losses the customer is willing to accept in order to

attempt higher returns. This characteristic is often related to the Time Horizon.

Yield from Investment: How much income needs to be generated annually from the

investment. This is particularly important to clients with specific liabilities such as

pension funds, foundations or retirees.

Target Return and Benchmark: What return on investment is considered a success and

whether the returns are considered in absolute terms or relative to some benchmark. This

characteristic is frequently tied to Risk Tolerance.

43

There are also specialist product preferences which are driven by a customer’s individual

preferences, the composition of the entirety of their portfolio or direction from an institution’s

board.

Type of Underlying Investable Asset: Whether an investment is classic securities such

as stocks or bonds, derivative securities such as futures or tangible assets such as real-

estate.

Geography of Underlying Investable Asset: The countries or regions which are the

primary residences for the risk and returns associated with the asset.

Tax Implications: Does the investment have to have specific characteristics based on tax

requirements.

Liquidity of Investment: The time required to redeem the investment if the need arises

and retrieve the invested cash. Some customers are willing to risk being unable to

liquidate their assets for months or years, while others wish to have the ability to redeem

in days.

Customers often have a predetermined preference for a very specific product. In many cases it is

possible to break down the preference into its underlying components and to satisfy the customer

needs with slightly different products which still meet the core requirements.

Private individuals are typically most flexible on the specific product, as long as their core

requirements are met, while institutions outsourcing the investment of a part of their portfolio are

least flexible. When an institution is looking for a sub-contractor investment manager, they are

typically looking to fill a very specific gap in their own lineup.

44

Degree of Product Specialization: Once the fundamental characteristics of a product are met,

many individual investors and all institutional investors require a degree of customization of

their portfolio to meet their specific needs. For foundations and pension funds this is especially

important given their commitments and liabilities and often takes the form of a requirement for a

specific annual yield, or the requirement for the portfolio to track the market to a specified,

quantitative value.

Ease of Use and Personalized Service Quality: All customers care about service to some

degree, however, private investors care much more about service flexibility than institutions.

People often have unique and unpredictable needs such as requiring a withdrawal on short notice

in a specific currency, or requiring handholding through a difficult time such as dealing with an

inheritance. Institutions, on the other hand, tend to have more predictable needs which do not

require this level of personalized service.

The service preference also includes the fundamental requirement of accuracy and service

correctness. Mistakes made by the investment service provider can be costly and very

inconvenient. For example, if a request for a withdrawal is not processed correctly and the

money does not arrive on the requested date, a customer can face significant problems.

The other side of service is the ease of access to the service. This includes hours of operation and

availability of people to speak with in person and remotely. Hours of operation are valued by

private individuals much more than by institutions, given that institutions are typically

represented by employees who wish to operate during regular business hours.

45

The availability of people to speak with in person is valued equally by all customers. All

customers, including institutions, require update meetings and they value opportunities to

interact with the investment decision makers.

3.3.2.2 Private Investor Customer Preferences

Availability of Other Financial Services: This is an extension of the ease of use preference.

Private individuals require a multitude of financial services including tax planning, loans and

insurance. Being able to get multiple services from one provider makes the customer’s life

easier.

Added Value Service Intangibles: This is a very broad category and it captures any additional

service that an investment manager can chose to provide. These will typically not dominate a

purchase decision, however, they can add to a customer’s choice to stay or leave. This category

includes the extra items such as tea and coffee served at investment review meetings, clarity of

reports or politeness of the front desk staff.

3.3.2.3 Institutional Investor Customer Preferences

Reporting Flexibility and Robustness: While all customers care about their financial

statements and reports, institutions have very strict requirements which are much less flexible

than individual investors. Institutional investment financial statements are reviewed by many

different people, ranging from board members to accountants and auditors, with different needs

and financial literacy levels. An institution may not hire an investment manager if it cannot

deliver the right set of reports at the right times.

46

3.3.3 Customer Segment Size and Growth Trends

Figure 3-6: Canadian population age demographic over time. (Statistics Canada, 2010) (Statistics Canada, 2010)

The most significant trend for investment customers is the aging of population which impacts

both private investors and institutional investors. Figure 3-6 shows the predicted age

demographic breakdown of the Canadian population up to the year 2031. Private investors are

impacted directly as they get older and their investment needs change. Institutional investors are

impacted indirectly through the aging of their customers whose money is being invested. Pension

funds are facing an increased pressure of withdrawals while the numbers of contributing

members are declining.

The effect of this trend on both segments is very similar. There is a constantly increasing demand

for investment product which is built for safe, less volatile and consistent returns at the cost of

lower returns.

0

5,000

10,000

15,000

20,000

2011 2012 2013 2014 2015 2016 2021 2026 2031

Tho

usa

nd

s

Canadian Population Age Demographic over Time

0 to 40

40 to 65

65 and over

47

3.4 Analysis of Suppliers

Investment management industry suppliers can be divided into the groups discussed below.

3.4.1.1 Primary Investment Vehicle Manufacturers

Stock, bond and commercial mortgage issuing organizations, primarily corporations, banks and

governments, make up this category. Stocks, bonds and commercial mortgages are not available

for purchase by the investing client directly from the issuer.

3.4.1.2 Core Trade Service Providers

This category is comprised of suppliers which are necessary for the purchase and sale of

securities. All purchasers of securities must use this supply chain to trade securities and to

distribute dividends and other yield.

In very simplified terms, companies issue securities to be listed on security exchanges. A

security purchaser places an order with a broker who then executes the order on the security

exchange by matching the buyers and sellers. The security itself is placed in a custodian account

for holding and the funds necessary to execute the order are transferred to and from a bank

account.

The actual process of executing the transaction is complex and can involve trading after hours on

secondary exchanges and securities lending for short-selling stocks. The key service that a broker

provides is matching the buyers with the sellers. A single buyer and a single seller will almost

never wish to transact on the exact same amount of securities. A key service that the brokers

provide is matching a seller with a number of buyers or a buyer with a number of sellers to fill

the order.

48

The custodian acts as a record keeper and vault for the client since the client no longer gets a

physical stock or bond to hold at home and all standard trading is electronic. A custodian

provides the key service of holding securities in their client’s name. This allows trades to happen

very quickly as there is no physical object which needs to be transferred from one owner to the

next.

Banks act as a final link in the service provider chain by holding the client’s money in their

account and providing general banking services to the buyers and sellers.

3.4.1.3 Investment Support Services

The suppliers in this category provide important but ultimately optional services to both the

investment manager and to the client directly. None of these services are strictly necessary for

the execution of trading and investing, however, they are essential for operating efficiently and

making sound investment decisions.

Companies like Bloomberg, Standard and Poors and Thomson Reuters gather and report

financial and trade data on companies and securities. This data is packaged and delivered to the

researchers and investment managers. These companies also provide security identifiers which

are critical in addressing the securities. Standard and Poors, for example, administers CUSIPs

which are the standard identifier for North American stocks. It is nearly impossible to trade

securities at a professional level without some globally recognized 3rd

party identifier.

In addition to investment managers, financial analysts such as Macquarie consume financial data

and attempt to forecast the future. These forecasts are sold to both, investment managers and

individual investors.

49

Software vendors provide the tools which are necessary for modern trading. In addition to

fundamental software needed for all modern businesses, such as operating systems and word

processors, there is a number of highly specialized software systems used for investment

management. These systems cover all of the key functions: data analysis, portfolio construction,

trade submission, accounting, client relationship management and client reporting.

Finally, auditors and lawyers provide the legal and administrative framework which allows

investment managers to operate in the highly regulated investment industry.

3.5 Analysis of Forces Driving the Industry

Force Who Assessment Summary

Suppliers

Issuers

Stock Exchanges

Brokers

Custodians

Banks

Data Vendors

Research Vendors

Software Vendors

Auditors, Lawyers

HIGH

+ Impossible to trade stocks without the

stock exchanges, brokers, custodians and

banks

+ There are no real alternatives to the big

exchanges like NYSE or TSX

+ Specialized software and data has large

switching costs

- Broker services are commodity and so

tend to compete on price

Buyers

High net worth

individuals

Institutions

MEDIUM

+ easy to compare results

+ low switching costs

- long term relationships difficult to break

(trust) especially for individuals

- significant information asymmetry as it

is easy to hide true costs and make it

difficult for customer to compare price

- private clients tend to not truly

understand the product and so can be

easily confused

50

Rivalry

Independent investment

counsel firms

Bank affiliated

investment counsel

firms

MEDIUM + Most potential customers already have

an investment solution, so they have to be

taken from other investment firms.

+ Price competition from Bank based

firms with massive scale

+ A lot of choice of investment managers

+ Overall market growth is stagnant with

little new assets to manage.

- Some ability to differentiate products by

investment methodology and underlying

investment vehicle as well as by

performance track-record.

- Low barrier to exit

Threat of New Entrants

New firms MEDIUM

- Building trust with new clients a barrier

to entry

+ Relatively easy to set up a new

company

+ Some existing relationships can be

converted (ex. Insurance companies)

- Track record takes time to establish

Substitutes

Self directed investing

Government

investments (GICs)

Alternative investments

such as precious metals

or real estate

MEDIUM

+ Easy for people to self invest online

+ Many investment alternatives to stocks

and bonds.

- Many people are not comfortable

making their own investment decisions

- Investing well is time consuming

Table 3-2: Forces driving the industry. Source: Adapted by Author.

Table 3-2 shows the summary of the forces driving the industry using the “5 Forces” framework

(Porter, 2008) (Porter, 2008). Each force is discussed in detail below.

3.5.1.1 Power of Suppliers

Stock exchanges have significant power. There are few alternatives to the big exchanges such as

NYSE and NASDAQ in the US and TSX in Canada. Due to strong network effects, companies

will wish to be listed on the biggest exchange that they can qualify for, which in turn leads to

51

consolidation and the formation of few, dominant monopolistic exchanges. Investors, who wish

to buy a specific stock, have no choice as to which exchange they interact with. NYSE dominates

the exchanges with a 2011 trade value of more than 20,000 billion USD, the second largest

exchange, NASDAQ had a trade value of more than 13,500 billion USD and the third, the Tokyo

Stock Exchange had a trade value of just less than 4,000 billion USD. (World-Stock-

Exchanges.net, 2012)

Brokers do not have significant power when dealing with investment managers because the

managers have contracts with multiple brokers and can easily compare their rates. Additionally,

the broker’s primary service is hard to differentiate. Speed and quality of execution does come

into play, however, these are typically very similar amongst brokers. Furthermore, since the

advent of discount brokers who offer stripped down service at the lowest price possible, the

brokerage business has moved to competing on price.

Custodians and Banks are a commodity business, but there can be a significant switching cost for

an investment firm due to deep process integration. While custodians and banks try to compete

on service and differentiation, in reality it is very difficult for them to compete on anything other

than price. As long as they deliver basic, accurate service, the investment firms only care about

the price.

Financial Data providers have power and primarily compete on differentiated quality. High

quality, timely data can be a significant advantage to investment managers which makes them

reluctant to settle for lower quality, cheaper data. Additionally, the majority of cost for financial

data distribution is fixed as it is tied to the gathering and storing of the data. This makes the MES

quite high resulting in a small number of large, dominant financial data providers: Standard &

Poors, Thomson Reuters and Bloomberg.

52

The software service providers have moderate power depending on their particular product. The

biggest power of the software manufacturer comes from switching costs, which cover both the

costs of reconfiguring systems to interface with the new software and the costs of training staff.

The supplier of a fully integrated, complex and critical system such as the trading system has

significant power over the investment manager due to the high switching costs. A full system

switch can take one to two years to fully roll out. This effect is tapered by the relatively small

pool of possible clients. Given that this software is only usable in this industry, each specific

client lost is difficult to replace.

3.5.1.2 Power of Buyers

Buyers are a medium force in this industry. On one hand, the buyers are completely fragmented

as each individual investor makes their own choice; on the other hand, the buyers have great

access to information. With the advent of the internet, it has become very simple for buyers to

quickly compare the different investment options for the actual returns versus the industry

standards. Comparing prices remains difficult due to many hidden costs of investing. For

example, some investment managers charge a fully inclusive price, while others make the client

pay for custody and trade costs.

On average, buyers are more educated about the investment industry now than they were

previously thanks to a proliferation of investment advice websites and TV shows. At the same

time, the investment industry is quite complex and many private investors are still quite

unfamiliar with its various complexities. The net effect is that while the average private investor

is more sophisticated than they were previously, they can still be taken advantage of by

unscrupulous investment managers.

53

Individual investor buyers have little bargaining power with the investment manager until their

investable assets reach multiple millions. Institutional investors tend to command large assets

consisting of tens of millions and so have significant bargaining power.

Finally, the switching costs for buyers are low. The actual act of switching from one investment

manager to another is essentially free for the investor. All of the switching costs are incurred

before the switch and take the form of search and selection costs. The investor is constrained by

two main forces: the fear of making a costly mistake and a personal relationship with the

investment manager. Both of these are a form of switching costs and they can be significant.

Even though investment clients can switch their managers frequently and they can hunt for best

pricing, the majority of clients prefer to stick with their managers for many years.

3.5.1.3 Rivalry

The force of rivalry is medium; however, it is trending higher. There are many competitors

ranging from very small investment managers operating with one or two staff and servicing

fewer than a hundred clients all the way to very large bank based investment managers servicing

many thousands of clients.

Globally, the amount of assets available for Investment managers to manage is growing at a very

small rate when compared to the market value change. Figure 3-7 shows that over the period

from 2008 to 2011, the average net asset flow was only 0.6%.

54

Figure 3-7: Global assets under management over time. (McKinsey & Company, 2012) (McKinsey & Company, 2012)

This effect can also be seen when assets available to investment managers are compared against

global financial assets as show in Figure 3-8.

Figure 3-8: Total global financial assets over time. (McKinsey & Company, 2012) (McKinsey & Company, 2012)

-20.0%

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

2008 2009 2010 2011

% Market Change

% Net Flows

Global Assets Under Management (EUR trillions, at year end)

0

20

40

60

80

100

120

140

2007 2008 2009 2010 2011

Total Global Financial Assets (EUR trillions, year-end)

Internally or Unmanaged

Managed by Asset Managers

55

Figure 3-9: Investment manager share of global financial assets. (McKinsey & Company, 2012) (McKinsey & Company,

2012)

Figure 3-9 shows the share of global financial assets which are available to investment managers.

While global financial assets have grown, the amount of assets available for investment

managers has not kept pace. In fact, the percentage share of these assets has decreased

considerably from 2007. This means that the only way for investment managers to grow their

asset pool is by taking those assets away from other managers. Furthermore, most potential

private clients with investible assets and virtually all institutional clients, already have an

investment manager who provides them with service. In order to acquire a new client, an

investment manager must steal the client from another firm. By far and large, this industry is a

zero sum game.

Economies of scale in the industry allow banks and other large organizations to compete on price

as well as on other factors. Banks are able to push the prices down forcing the smaller managers

to either match or to work hard on differentiating themselves along the customer preferences.

This effect is mitigated by the information asymmetry discussed in the preceding section as it is

difficult for customers to objectively compare prices.

18.0%

19.0%

20.0%

21.0%

22.0%

23.0%

24.0%

25.0%

2007 2008 2009 2010 2011

Asset Manager Share of Global Financial Assets

Asset Manager Share

56

Investment managers attempt to carve out their own identities in a crowded market, however,

they typically end up sounding very similar to each other. As a result, product differentiation

does not significantly reduce rivalry. Instead, relationship driven sales reduce rivalry, making it

difficult for competing firms to steal each other’s clients.

One final consideration is that the barriers to exit are low because there is great stored value in

the private client pool. The client base can be sold to a competitor on exit. Time and money spent

on advertising, building a track record and acquiring clients can then be recovered through a sale

of the client book as if it was a tangible asset which significantly reduces sunk costs. This means

that underperforming companies can easily exit the industry instead of being forced to compete

at all costs. It is important to note, however, that the sunk costs can become recoverable only

after a company has successfully built a client book which can take considerable time.

3.5.1.4 Threat of New Entrants

The force of threat of new entrants is medium. Starting a firm as such is relatively easy and the

direct barriers to entry are low. In the simplest terms, a new investment manager needs to have

employees with the required certifications such as Chartered Financial Analyst (CFA) or

equivalent and then register with the regional Securities Commission. This process typically

takes a couple of months. A new investment manager can design and implement client portfolios

with minimal infrastructure through web-based portals which keeps the initial capital investment

very low.

Post 2008 financial crisis, the regulatory requirements are a noticeable barrier to entry. Any new

firm must invest resources in compliance staff and systems in order to meet its regulatory

obligations. Technology is a mitigating factor as there are excellent, off the shelf compliance

57

systems which a company can purchase. Overcoming the regulatory barrier is simply a matter of

making sufficient capital investments.

The real barrier to entry is attracting clients. What makes attracting clients difficult is that client

relationships are long-term in nature and it is essentially impossible for a client to try the service

like they might try a one-off consumable. Signing on with a new investment manager is a major,

long term decision. These long-term relationship based sales require a level of trust or a multi-

year performance track record which takes time to build. This reduces the strength of the force

“threat of new entrants”. It takes time for start-up firms to acquire clients, which in turn makes it

difficult for people with no client relationships to start a new firm.

3.5.1.5 Threat of Substitutions

The force of threat of substitutes is medium in this industry. The internet and the proliferation of

online discount brokers has allowed the customer to invest their assets directly thereby

circumventing the investment manager altogether. Also, the same changes have allowed the

customer to invest in other types of investments in addition to traditional stocks and bonds. In

recent years, there has been a proliferation of easily accessible alternative investments such as

specialist Exchange Traded Funds focusing on specific industries, commodity investments,

precious metals, real estate funds and personal real estate investments. Recent market instability

has given some clients the necessary incentive to change their approach and to abandon

traditional stock and bond portfolios in favor of the alternatives.

The main deterrent to moving money out from a traditional investment manager to one of these

newer alternatives is the client’s personal time. Taking care of your investments requires

significant commitment which many people want to avoid. There is also a psychological aspect

58

of the client having to possess the confidence to invest in something different or to try

unpracticed techniques with their own personal savings.

3.6 Sources of Competitive Advantage

Sources of Advantage can be examined from two perspectives: the customer’s willingness to pay

and price effects (Ghemawat, 2010). The willingness to pay is based on meeting customer’s

needs and the price effects are based on reducing the company’s costs. By mapping a company’s

sources of advantage onto customer’s needs and cost reducing strategies, a company can be

evaluated against its competitors on how well it is able to attract clients and keep its costs down.

This can then be used to assess the overall company competitiveness.

Table 3-3 scores the customer needs on their relative importance to the customer’s decision

making process and it scores the company’s advantages, including those impacting costs, on

their importance. The scoring is on a scale from 1 to 5, with 5 being most important or impactful.

The cost advantages do not have a customer importance score as the customers do not care about

a firm’s internal costs. The cost advantages are purely for the company’s ability to compete on

price or to extract superior profits.

Two representative firms were chosen to compare against Dovos: Royal Bank of Canada Wealth

Management representing very large investment companies and banks and Ladner, Thomson &

Associates, a two person company, representing very small independent investment companies.

59

Willingness to Pay and

Source of Advantage

Relative

Importance

to Customer

Dovos

Major Bank:

RBC Wealth

Management

Small Private

Counsel Firm:

Ladner, Thomson

& Associates

All Customer Types

Likelihood of superior future

investment performance 5

Long term performance

track record 4 3 3 4

Short term performance

track record 5 2 3 3

Stable investment team 3 4 2 3

Large investment team 2 3 5 1

Investment product selection 3

Wide range of product

offerings 3 3 4 1

Investment safety and risk

reduction 4

Years in business 3 4 5 3

Firm integrity record 4 4 4 4

Firm professionalism 4 4 5 3

Familiarity with firm 4 1 5 1

Firm transparency 3 4 2 5

Ability to have true

segregated portfolios 3 4 4 3

Investment customization to

specific investment needs 4

Customized portfolios 4 4 3 3

Private Investor Needs

Service 3

Strong personal

relationship 4 4 2 5

High ratio of staff to

clients 3 4 2 4

Flexibility to requests 3 4 2 5

Multiple convenient

locations 4 1 4 1

Online services 3 1 4 1

Breadth of financial services 3

Fully featured financial

office 3 3 5 2

Institutional Investor Needs

Ability to meet reporting

requirements 4

60

Flexibility to reporting

requests 4 4 3 2

Cost Advantages

Economies of scale 2 5 3

Economies of scope 2 5 1

Optimal capacity

utilization 2 3 5

Table 3-3: Sources of competitive advantage. Source: Author.

3.6.1 Customer Utility and Willingness to Pay Advantages

3.6.1.1 Likelihood of Superior Future Investment Performance

Fundamentally customers want to invest with investment managers who will generate superior

future returns or meet their income needs. The only hint at how the unknown future may be

handled by a company is by examining how it handled the past.

Good long term investment performance, defined as longer than 7 years, can be a significant

advantage to an investment company since it is a time dependent resource. There is no way to

accelerate the building of a multi-year track record. Dovos and RBCWM both have comparable

long-term track records with LTA having a slight performance advantage. This kind of

advantage is necessary for companies like LTA in order to survive over the long term.

Short term investment performance, defined as shorter than 3 years, is an even more significant

advantage to investment companies as it gives the clients the impression that the investment

company is completely in tune with what is happening now. There is an industry effect of some

investors chasing after “hot numbers” and moving assets to investment managers who have had

superior results in the past couple of years. Dovos is at a slight disadvantage in this important

category due to its inferior core Canadian Alpha product performance, which is only partially

mitigated by its slightly above average balanced and global mandate performance. Both

RBCWM and LTA are essentially on par. It is worth noting that very few investment

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management firms retain superior short term performance for extended, multi-year periods of

time.

Regardless of how good a track record is, it will have little value to the customer if the people

responsible for making the investment decisions are no longer with the firm. The stability of the

investment team is an important part of a customer’s decision making process. Smaller firms like

Dovos have an advantage over big banks because the investment professionals making the

investment decisions are accessible to the clients and can be shown to be unchanged.

Additionally, both Dovos and LTA were founded by their current chief investment strategists

who are not only still with their respective firms, but are very unlikely to leave. With RBCWM’s

investments, on the other hand, the investment strategists for the different funds and products

rotate periodically and can leave without much notice to the client. It is important to note that

this advantage can become a disadvantage if the founders retire without grooming a trusted and

competent successor.

Great performance often requires a great research team in addition to the chief investment

strategist. When compared against other small investment managers, Dovos has the advantage of

having a dedicated investment technology and research team while LTA has no technology or

research team apart from their one Portfolio Manager. Big banks and larger investment

managers, on the other hand, have very large teams which give them an advantage over Dovos

and LTA. It is important to note that the teams are an advantage only when they yield superior

investment performance results.

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3.6.1.2 Investment Product Selection

RBCWM and other big banks can offer a wide selection of products which can be unavailable

through smaller firms. Smaller firms do not manage sufficient assets to diversify into many

different products efficiently and so they are forced to be specialists and outsource to sub-

advisors to create selection.

Dovos is at a disadvantage to RBCWM as it specializes in equity investments with sub-advisors

for fixed income and Emerging Markets investments.

3.6.1.3 Investment Safety and Risk Reduction

This customer utility item is focused on avoiding investment losses from intended malicious

action such as fraud and from unintended mistakes such as firm bankruptcies.

Any firm that has been in business for over twenty years is more appealing to customer’s

concerns for safety and stability than a newly formed firm. Similarly to long investment track

records, this is a time dependent resource. Firm reputation is derived from its actions and

stability over time. There is no way to accelerate the building of reputation. Dovos, RBCWM

and LTA all enjoy strong, long term reputations, with the bank having a clear advantage over

other private firms given its over 100 years of history. This also ties into the perception of

professionalism of the firms. Centuries old banks, by their very nature, convey an air of stability

and professionalism which small firms cannot duplicate.

Banks also enjoy a unique advantage over firms like Dovos in that they already have a

relationship with their customers through standard banking services. Every existing bank

customer can be easily approached with investment product. Dovos and LTA, on the other hand,

63

have to first make potential customers aware of their existence and only then they can try to

make a sale.

One area where smaller firms like Dovos and LTA can enjoy an advantage over RBCWM is in

having greater transparency. Clients can see the inner workings of the operation, meet everyone

involved in the investment process and see the whole company from the inside. A big bank does

not allow typical customers to interact with their back office staff in the same way a small firm

can. Some clients feel more secure in knowing the people who actually take care of their money

in addition to knowing just the sales representatives. A small firm like LTA can chose to be even

more transparent than Dovos because its two person operation is naturally less complex and

more understandable than Dovos’.

True segregated portfolios where the customers are owners on record of all their securities give

customers protection from firm bankruptcies and other financial disruptions. All investment

firms can open segregated accounts for their clients; however, larger firms can negotiate better

rates with custodians. LTA’s customers, for example, have to either agree to pay a higher

custody fee or be forced to not have true segregated assets.

While these advantages are most relevant for private investors, institutions are not immune. All

institutional customers are represented by people who also need to know and trust the investment

managers they hire.

3.6.1.4 Investment Customization to Specialized Needs

Smaller sized firms can be more flexible for smaller customers than big banks. A customer is

more likely to select an investment manager who can match their needs exactly, which makes

flexibility important. The economies of scale for banks push their investment professionals to

64

offer standard solutions, which may not be ideal when dealing with relatively small customers.

Dovos, on the other hand, can offer specialization to these smaller investors. As long as the

product selection itself meets the customer’s needs, Dovos can offer more customization than

RBCWM. LTA, however, faces a different problem altogether. With only two staff, LTA is too

small to offer much customization to customers because it just does not have the necessary

resources. Dovos enjoys a unique size advantage by being large enough to have the necessary

staff and investment research infrastructure to provide customization while at the same time

being small enough to not require standardization in order to take advantage of scale cost

savings.

3.6.1.5 Private Investor Needs - Service

Very small and focused firms like LTA have an advantage over other companies in the strength

of relationships that they can forge. With fewer total customers and the customers being serviced

by the firm founders directly, LTA can develop even deeper bonds than a company like Dovos or

a bank like RBCWM. This is a significant advantage given that private individuals value

relationships highly.

A related aspect of this effect is the higher number of service employees for each client and the

non-bureaucratic environment that smaller companies like Dovos and LTA can offer. Unlike

RBCWM, there are no major scale efficiencies which will be lost by processing unique requests.

Additionally, Dovos and LTA both enjoy the advantage of having experienced client service

staff. Since big banks tend to have more junior staff, especially when dealing with smaller

accounts, customer experience can suffer. LTA can provide great service, however, due to its

small size it can be swamped by multiple specialized customer requests.

65

Accessibility is the other aspect of service valued by individuals. Here RBCWM is at a clear

advantage compared to Dovos and LTA as it offers many conveniently located branches while

Dovos and LTA both have limited offices. Also, RBCWM has developed a robust online

investment platform which allows their customers to self-service many requests while Dovos and

LTA can deliver only a rudimentary online experience.

3.6.1.6 Private Investor Needs - Financial Services Breadth

A big bank like RBCWM can offer all financial services under one roof making the overall

customer experience simpler and often with bundled pricing. Dovos and LTA both must use

referrals to match this, which when used well can offset the disadvantage. By offering to connect

its clients with other independent financial services, Dovos and LTA can expose their clients to

“best of breed” financial services instead of just one bank’s services. Given that most clients

value ease of use over always getting the best possible service, however, RBCWM has an overall

advantage.

3.6.1.7 Institutional Investor Needs - Ability to Meet Reporting Requirements

Similarly to service, Dovos enjoys a slight advantage over RBCWM given its higher potential

for flexibility. For the largest customers, however, RBCWM’s size can give it an advantage if the

reporting needs are very onerous. Dovos and LTA may not have the capacity to meet particularly

voluminous requirements. LTA is the most disadvantaged as it lacks the resources to produce

many complicated and customized reports.

66

3.6.2 Cost Advantages

3.6.2.1 Economies of Scale

The biggest cost advantage RBCWM has is the scale of its operation. RBCWM has much more

AUM than Dovos and can open its offices across the world in cost efficient locales. All of the

fixed costs for managing money, including registration costs and research costs are diluted over

many more customers. Dovos and especially LTA are not able to match this potential for cost

reduction.

The second aspect of RBCWM’s scale advantage is the access to best rates based on volume.

RBCWM gets better rates from financial suppliers such as brokers and data vendors and from

standard suppliers such as hardware vendors simply because they are purchasing much more

volume than Dovos or LTA.

3.6.2.2 Economies of Scope

RBCWM offers many different services which allow them to save costs. For example, all

investment managers have increased work during quarter ends and an extra large amount of work

during year end. A bank is able to shift some of its workforce to supporting other departments

between quarters in a way that Dovos or LTA cannot. Additionally, RBCWM can share

infrastructure costs such as buildings, IT and corporate administration between its different

banking and investment products.

3.6.2.3 Optimal Capacity Utilization

LTA enjoys an advantage over Dovos in its ability to fully utilize its capacity and infrastructure.

It is able to not only keep its operations very small and simple with only two employees, it has

been able to grow its business so that this infrastructure is fully utilized. LTA has no real

67

capacity to grow without adding to its operations, however, that means it currently has very low

cost to AUM ratio. Dovos, on the other hand, has 27 employees and rents a larger office with

more equipment, more complex IT systems and purchases more investment research data. It is

set up for growth and it is capable of managing more than double of its current assets.

In effect, LTA is operating at near its minimum efficient scale for the simpler investment product

that it offers, while Dovos is geared for the next level of investment complexity and scale, but it

has not reached the necessary output. Dovos’ only advantage in scale comes from the fixed costs

which have to be paid by all investment managers, including registration and legal.

3.6.2.4 Dovos’ Cost Position

In order to combat all the disadvantages above, Dovos has been very consciously keeping its

costs as low as possible through minimal staffing, no frills office and median salary levels.

3.7 Dominant Industry Trends

There are two major trends shaping the industry.

68

3.7.1 Trend of Declining Profitability

Figure 3-10: North American investment management profit pools over time. (McKinsey & Company, 2012) (McKinsey

& Company, 2012)

When investment management revenue, costs and profits are mapped in Figure 3-10 over the

period from 2007 to 2012(forecast), it is clear that while the revenue has recovered to its 2007

level, the costs have surpassed those levels. Consequently, profits have not recovered.

This can be partially attributed to additional reporting and regulatory requirements imposed on

the investment industry post the 2008 financial crisis. Before 2008, Dovos was able to meet its

regulatory requirements with one employee dedicating less than one half of her time to

compliance. In 2012, this had to be increased to one fulltime and one part time employee.

0

20

40

60

80

100

120

2007 2008 2009 2010 2011 2012F

North American Asset Management Profit Pools (2007 results indexed to 100)

Revenue Pool

Cost Pool

Profit Pool

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3.7.2 Trend of Stagnant Developed Markets and Growing Emerging Markets

Figure 3-11: Net flows as percent for geographic regions. (McKinsey & Company, 2012) (McKinsey & Company, 2012)

Figure 3-11 shows the relationship of Net Flows to the assets available for managers from 2007

to 2011 when broken up by markets. The Developed Markets are showing little to no growth,

while the Emerging Markets are showing significant growth. Combined with the overall industry

trend, it is clear that there is little overall growth in the assets available to investment managers

and the growth which is occurring is concentrated in Emerging Markets. This trend is tied to the

shifting of demographics towards a higher percentage of retirees in the overall Developed

Markets population.

0%

5%

10%

15%

20%

25%

Net Flows as % by Market from 2007 to 2011

Net Flows as %

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3.8 Summary and Implications of the External Environment

3.8.1 Strengths, Weaknesses, Opportunities, Threats

The Strengths, Weaknesses, Opportunities and Threats (SWOT) (Crossan, Rouse, Fry, & Killing,

2013) can be seen in Table 3-4. The individual items are arranged according to their relative

importance with the most important items at the top.

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Strengths Weaknesses

Long performance track record and history

Good recent and long term performance of

low risk product

Customized service

Ability to perform specialized investment

research and to create highly customized

investment product.

Have excess capacity to manage more

assets with no additional overhead costs.

Weak recent performance of key products

Pre-retirement aged Portfolio Managers in

a relationship driven business.

Limited investment product types.

Limited financial services.

Brand is not recognizable outside of the

local industry insiders.

Opportunities Threats

Very small independent investment

managers are under cost pressures from

government regulatory requirements.

Increase in retirement age investors

interested in low risk product

Many independent investment firms are

owned and operated by the Boomer

generation and so are ready to sell their

businesses.

Traditional fixed income products are

generating very low yields due to low

interest rates.

Emerging Markets are showing growth of

assets.

It is difficult to start an investment

management firm.

Increase in accessibility to a wide variety

of investment products through the internet

and low-price brokers.

Increase in costly government regulatory

requirements.

Increased competitive pressure from banks

and other large financial institutions

offering easy to use, bundled, low price

packages.

Developed Markets including Canada are

showing very limited growth of assets.

Table 3-4: SWOT analysis. Source: Author.

There are three dominant themes which need to be addressed. One of Dovos’ core products has

underperformed in the past couple of years which has opened it to losing more clients.

The Canadian investment market growth has stagnated in the past 3 years and is projected to

remain stagnant. This has increased competitive pressure from other investment managers,

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including big organizations which have far greater resources. The negative effect is compounded

by the increased regulatory requirements which have increased costs.

The current Dovos sales force is nearing retirement which means that relationship motivated

clients may leave. Additionally, even though the investment team, the client service team and the

administration team have spare capacity, a significant portion of the sales force is no longer

highly motivated to aggressively grow their client base and more of their time is spent servicing

existing clients rather than acquiring new ones.

3.8.2 Summary

This section illustrated the competitive environment in which Dovos operates and it has shown

the major demographic, regulatory and technological trends which are shaping it. The current

Dovos strategy is not optimized to compete in the new environment and its current sources of

advantage will erode over time.

The following section will propose three strategic alternatives designed to take advantage of

Dovos’ strengths, focus its resources and configure it for success.

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4 Strategic Alternatives

This section outlines three strategic alternatives designed to take advantage of the company’s

strengths and the competitive environment as outlined in the previous chapters. Each alternative

is examined in four sections. The first section outlines the product that each option will focus on,

including new products or changes to existing products. The second section shows how the

option will distribute its product and acquire new assets to manage. The third section explains

what changes to the firm’s operations have to be made to implement the option. The fourth and

final section shows what new revenue and EBIDTA the option will generate over a 5 year

period. Combined, the content in these sections will be used to evaluate and compare the options.

The details of the financial models and some key assumptions made when constructing them are

shown in Appendix A.

4.1 Strategic Option 1: Focus on Retirement Based Product

Given that population demographics are pushing more money towards retirement products,

focusing on these products will help to attract individual investors and many institutional

investors who service retirement aged population.

4.1.1 Product

The product will leverage research already conducted on Low Volatility-High Yield portfolios

and will be focused around risk reduction and yield maximization. It will operate on two levels:

stock selection and asset allocation. The first level, stock selection, will be customized for larger

clients to provide a stock mix which hits each client’s specific needs for yield as determined by

their forecasted liabilities, deposits and redemptions. The second level, asset allocation, will look

74

at the entire portfolio and mix the investment types such as equities, bonds, mortgages and

markets such as Canada, U.S., Europe, South America and Asia. The asset allocation portion

requires further research and investment of time and resources before it can be offered to clients.

Providing that the research is successful and does create viable strategies, the value proposition

is to offer market-like returns without market-like losses. Additionally, these portfolios can

generate yields which are no longer generated by traditional fixed income products.

The strategic trade-off for Dovos is to essentially abandon or de-prioritize the classic Alpha

based core equity product which has always been a Dovos core offering. This will possibly cause

Dovos to lose some existing institutional clients.

4.1.2 Product Distribution and Acquisition of New Assets

This strategy works very well with existing asset gathering methodologies and the key to success

will lie in maximizing Dovos’ efforts on all these fronts. No new distribution methodologies are

required. The key difference will be in the marketing used to attract clients through all current

distribution channels.

Direct Portfolio Manager sales

Partner Program

Retirement focused Separately Managed Assets (SMA)

Offering Memorandum (OM) individual funds distribution

4.1.3 Operations and Efficiency

There are two operational changes required to implement this strategic option. The first is the

hiring of additional motivated Portfolio Managers. Given that Portfolio Managers are

compensated based on the total assets they manage, PMs with fewer assets are typically more

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motivated to aggressively grow their assets than ones with large books. Dovos’ current Portfolio

Managers are busy maintaining the existing assets and not all are motivated to aggressively seek

new clients.

The second change is the outsourcing of other Dovos products, including the core Alpha

strategy. The retirement product requires a significant ongoing investment of research time,

which is a strategic resource. In order to keep the product best in its class, Dovos must focus its

research on continuously improving the product.

The trade off for this tactic is that institutional clients who hired Dovos for the Core Alpha

strategy will leave. This represents around 16% of current AUM and 5% of current revenue. In

essence, this will shift Dovos revenue completely away from these types of institutional clients

to private clients and institutional clients who are seeking retirement like products.

4.1.4 Financial Summary

Table 4-1 summarizes the financial outlook of implementing Option 1.

Option 1 Key Financial Summary (CAD)

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

Revenue 6,100,000 6,668,856 7,471,972 8,369,897 9,627,501 10,525,426

Costs 5,100,000 5,476,457 5,993,541 6,590,519 7,547,400 8,144,378

EBITDA 1,000,000 1,192,399 1,478,430 1,779,378 2,080,100 2,381,048

EBITDA YoY Growth 19.2% 24.0% 20.4% 16.9% 14.5%

EBITDA Cumulative Growth 19.2% 47.8% 77.9% 108.0% 138.1%

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3 Year Revenue Growth 37.2%

5 Year Revenue Growth 72.5%

3 Year EBITDA growth 77.9%


Table 4-1: Option 1 financial summary. Source: Author.

4.2 Strategic Option 2: Distribute to Emerging Markets

Given that the world economy and global demographics have pushed growth to the Emerging

Markets, Dovos can focus on distributing its classic products to China, South America or Central

and Eastern Europe.

4.2.1 Product

The assets available for investment managers in Emerging Markets are still growing in the

traditional categories, such as classic Alpha equity based products and classic balanced

mandates. Dovos has over 20 years of experience building these products and has a lineup which

is ready to be distributed. While there is no need to specifically focus on retirement products

which can be pursued on a spare capacity basis, the main effort can be concentrated on classic

Dovos products. This allows Dovos to remain focused on the product it has always been

building. The main driver for considering this option is the significant projected growth of the

market. Dovos’ balanced portfolio, which is aimed at the classic savings market, has

outperformed the Median Manager Benchmark in 2012. This, combined with its 20 year history

and the amount of growth projected for the market, should allow Dovos to capture new retail

clients, while it continues to work on improving the product.

77


Given that Dovos has no contacts or experience selling in any Emerging Market; it would have

to form a partnership with local Portfolio Managers. This would have to be more than the Partner

Program, which is just a referral service, since Dovos has no facilities to service local clients.

The best approach would be a Joint Venture with a local firm where Dovos would handle the

product creation and back-office operations and the local firm would handle customer service

and sales. The JV partner must have an effective sales force and be able to quickly grow and

retain clients. Once a JV is in place, the Partner Program would be implemented locally to

increase referrals and accelerate asset growth.

The main challenge behind this tactic is that Dovos has no control over the availability of a

suitable JV partner. The search for such partner will take time and is not guaranteed to succeed.

This option is therefore quite unpredictable. Additionally, in order for this option to be attractive

against the other options, Dovos would need to retain 60% of the revenue and leave 40% to the

JV partner. If the split is reduced to 50-50, then according to the model shown in Appendix A,

the option is less attractive than the other options. Considering the high degree of uncertainty,

this would make the option not worth considering. The 60-40 split may make finding a JV

partner more difficult.

This strategy should be rolled out one territory at a time so that the company does not become

overstretched.


The first major operational change is an increase in the regulatory burden on the company. The

BCSC has strict requirements around the monitoring of foreign investments for signs of money

78

laundering or ties to terrorism. Since Dovos would make investing foreign money a part of its

core business, it would need to invest in additional infrastructure to monitor the financial

activities of its emerging markets clients.

Additionally, the developing countries Dovos would be entering have their own regulatory

bodies which would need to be satisfied. This would require Dovos to enlist local legal services

and work through the appropriate filings. Depending on the specifics, this may be handled by the

local JV partner.

Keeping costs low is essential to competing in these markets. Dovos should outsource as much

of the back-office operations as possible. This will help to lower costs and if the right outsourcer

can be found, it may provide additional experience with operating in the new market.

The trade-off of this tactic is that the outsourcing of the back-office may negatively impact the

service for existing domestic clients who are used to a high level of customization and personal

attention.





Revenue 6,100,000

6,109,000

6,439,000

7,099,000

8,809,000

9,889,000

Costs 5,100,000

5,103,350

5,272,850

5,611,850

6,528,350

7,070,350

EBITDA 1,000,000

1,005,650

1,166,150

1,487,150

2,280,650

2,818,650



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3 Year Revenue growth 16.4%



5 Year EBITDA growth 181.9% Table 4-2: Option 2 financial summary. Source: Author.

4.3 Strategic Option 3: Become a Service Provider to Portfolio Managers

Given that winning new assets from other investment managers is difficult and new assets are

not being added to the market, this option sees Dovos grow its revenue by partnering up with

highly successful Portfolio Managers who wish to become independent from their existing

companies in order to realize higher returns on the assets they manage. Due to regulatory

requirements, it is impossible to become an independent Portfolio Manager overnight without an

investment in the appropriate registrations, compliance capabilities and other back-office items.

4.3.1 Product

Dovos will offer its extended back-office services to Portfolio Managers as a service which will

allow the Portfolio Managers to focus on servicing their clients and making the investment

decisions. Dovos currently has a fairly robust reporting capability, compliance service, corporate

services such as human resources and office facilities. All of these must exist for Dovos to be

able to operate as an investment manager in British Columbia. This allows Dovos to leverage its

existing infrastructure. In return, the joining Portfolio Manager will split his or her revenue with

Dovos according to a pre-determined schedule. The complete listing of services which will be

offered is:

Registration status as an Investment Manager in all major Canadian provinces.

Annual regulatory filings to BCSC and CRA

Office facilities including a receptionist.

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High quality quarterly client statements.

Access to Dovos client seminars.

Access to Dovos research and investment product.

Corporate services including human resources, payroll, benefits.

A highly competitive custody and trade execution rate due to bulk discounts available to

firms of Dovos’ size.

The trade-off of this option is that the Dovos brand would get diluted. In order for a Portfolio

Manager to become registered under Dovos, he or she would have to operate under the Dovos

brand, with a possibility of using their own name as a sub-brand. As a result, Dovos would still

offer its own products in addition to being a brand behind these new Portfolio Managers. If one

of them had any difficulties with his or her clients, Dovos would have limited capability to deal

with the problem but it would bear the full responsibility. A similar issue can occur with

compliance. Dovos can monitor compliance; however, it would have limited ability to enforce

compliance. As such, if one of these PMs decided to break regulatory requirements, then Dovos

would be liable to the BCSC.

The other major trade-off is that there would be competition for clients between Dovos’ own

Portfolio Managers and these new Portfolio Managers. This may create some challenging

dynamics.


The model works through offloading asset acquisition to the serviced Portfolio Managers. It is

their job to acquire and maintain their clients. The way Dovos acquires new assets is by finding

these Portfolio Managers through two strategies. A headhunter will be hired to source and find

81

suitable candidates and Dovos sales staff will spend a portion of their time sourcing leads for

Portfolio Managers who are suitable candidates and may be interested in joining the company. In

order for this model to work, a suitable Portfolio Manager must meet the following criteria.

Manage assets of at least $100,000,000.

Not be bound by strict non-solicit or non-compete clauses which would prevent him or

her from bringing clients to Dovos.

In order to attract the Portfolio Manager, Dovos will have to pay him or her revenue multiple to

“buy the book.” The industry standard is to pay 1.0 to 1.5x annual revenue. Given that the PIM

model gives the Portfolio Managers a higher share of the revenue, Dovos may be able to

purchase the books with 0.75x annual revenue.

The trade-off is that this is a significant capital investment for Dovos and it will tie up

considerable capital resources. Additionally, any Dovos sales time directed at finding these

Portfolio Managers is not directed at finding new clients.


Support costs for new assets tied to the new Portfolio Managers increase more quickly than with

Option 1. Each new Portfolio Manager will bring a new set of requirements and this can drive

the costs up. As such, this option requires Dovos to become as cost effective as possible in order

to protect the profits which can be eroded by an unforeseen increase in operational complexity.

Additionally, the existing Dovos Portfolio Managers would have to be treated as customers of

this Dovos service in order to treat everyone fairly.

Some labor intensive, commodity like back-office functions such as trade settlements or

reconciliation should be outsourced as much as possible to drive down the costs. Dovos would

82

still provide the regulation mandated compliance, registration and the overall packaged corporate

service.

The major trade-off is that this option radically changes the Dovos identity from being a

dedicated investment manager to being both, a service provider and an investment manager. This

necessary internal culture shift may have hard to foresee impact on staff morale.

The second trade-off is that while currently Dovos can set its own requirements on the back-

office department and thus fully control costs, when it becomes a service provider, Dovos will

have to meet the expectations of the new serviced Portfolio Managers. The impact of this change

is also difficult to predict given that Dovos has no experience in servicing the needs of non-

Dovos Portfolio Managers.

The current Dovos back office technology and systems infrastructure will be able to handle up to

5 new Portfolio Managers before requiring a major upgrade. Once the upgrade point is reached,

Dovos will be forced to upgrade its core accounting system, Client Relationship Management

(CRM) system and surrounding technology infrastructure. Based on current estimates, this will

cost between $500,000 and $750,000.



83



Revenue 6,100,000

6,426,250

7,078,750

7,731,250

8,710,000

9,362,500

Costs 5,100,000

5,255,000

5,565,000

5,875,000

6,340,000

6,650,000

EBITDA 1,000,000

1,171,250

1,513,750

1,856,250

2,370,000

2,712,500







Table 4-3: Option 3 financial summary. Source: Author.

4.4 Options Evaluation and Recommendation

4.4.1 Evaluation Criteria

The three options can be scored and evaluated based on preferences according to the scoring

criteria below.

4.4.1.1 Potential for Revenue Growth

This criterion captures the ability of an option to generate new revenue which would have been

unavailable had the option not been implemented. It is scored on the projected revenue generated

by an optimistic outcome for the option as described above. Revenue is net of any revenue

sharing arrangements and so it evaluates only the revenue which is available to Dovos. The

revenue growth is evaluated after a 5 year period. At the current budgeted revenue growth of 3%

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annually, a 5 year growth of 16% is the base case. This criterion is weighted at 20% of the total

score as growing the revenue is a key stated goal for the company.

Score Meaning

1 Option has the potential to generate revenue growth lower than 16% after 5 years.

Option is worse than keeping current growth plan even if it is successful.

2 Option has the potential to generate revenue growth between 16% and 32% after 5

years.


years.


years.

5 Option has the potential to generate revenue growth over 70% after 5 years.

4.4.1.2 Potential for Profit Growth

This criterion captures the additional new EBITDA that an option will be able to generate. While

the EBITDA is linked to revenue, ultimately the shareholders are interested in how much profit

an option will generate more than in how much raw revenue the option will generate. This is

based on an ongoing pro-rata EBITDA which excludes one time startup costs. This criterion is

weighted at 30% of the total as generating profit is the key requirement from the board.

Score Meaning

1 Option has the potential to grow EBITDA by less than 50% after 5 years.

2 Option has the potential to grow EBITDA by between 50% and 100% after 5 years.



5 Option has the potential to grow EBITDA by over 200% after 5 years.

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4.4.1.3 Time to Profit

This criterion evaluates the time needed to see first signs of significant EBITDA growth. The

criterion looks at the number of years needed by the option to increase EBITDA by 50%. This

criterion is weighted at 10% of the total as getting to the revenue quickly is not as important as

the other criteria.

Score Meaning

1 Option will generate EBITDA growth of 50% after more than 4 years or never.

2 Option will generate EBITDA growth of 50% after at most 4 years.



5 Option will generate EBITDA growth of 50% after at most 1 year.

4.4.1.4 Risk

This criterion captures the overall inherent risk in implementing the option. This is a qualitative

assessment of whether the option requires highly optimistic events to occur for it to capture its

stated revenue potential. Risk also captures the likelihood of the option failing to generate any

new revenue and of costing the company its investment. This criterion is weighted at 25% of the

total as risk is an important consideration. Even if an option has great revenue and profit

potential, it is undesirable if it places the company at risk of losing its investment or if it requires

very optimistic results.

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Score Meaning

1 Option requires very unlikely events or the option has a high possibility of failure.

2 Option requires unlikely events or the option has a significant possibility of failure.

3 Option requires somewhat likely events or the option has a somewhat low possibility

of failure.

4 Option requires likely events or the option has a low of failure.

5 Option requires very likely events or the option has a very low possibility of failure.

4.4.1.5 Capital Investment Required

This criterion captures the amount of capital the company must invest in executing the option in

order to have a chance of achieving the Revenue Potential. It reflects the resource drain on the

company as well as the likelihood that the company will be able to raise sufficient capital to

execute the option. This criterion is weighted at 15% of the total as it is important for the

company to not over-invest itself in a single option at the cost of its core business.

Score Meaning

1 Option requires a capital investment of more than 1x annual revenue.

2 Option requires a capital investment between .5x and 1x annual revenue.

3 Option requires a capital investment between 0.5x and 0.25x annual revenue.

4 Option requires a capital investment between 0.25x and 0.1x annual revenue.

5 Option requires a capital investment lower than 0.1x annual revenue.

4.4.2 Combined Option Evaluation and Summary

The individual rankings of the options can be seen below. For a detailed analysis of the numbers

behind the options, please see Appendix A.

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Evaluation Criteria Weight

Option 1:

Retirement

Product Focus

Option 2:

Emerging

Markets

Option 3:

PM Service

Provider

Potential for Revenue Growth

20% 5 4 3

Potential for Profit Growth

30% 3 4 4

Time to Profit 10% 4 3 4

Risk 25% 4 1 3

Capital Investment Required

15% 4 2 1

Total 100% 3.9 2.9 3.1

Table 4-4: Strategic option preference analysis. Source: Author.

Table 4-4 shows the individual scores for each option against each criterion as well as the

combined score. Option 1 is the preferred option before considering feasibility. Option 2 and

Option 3 show the same EBITDA growth when mapped onto the 1-5 evaluation scale, however,

Option 2 has the highest EBITDA potential when examined in detail. Option 2 also comes with

the greatest risk. Option 3 provides a second best EBITDA; however, it has the highest capital

investment required. The feasibility of each option will be examined in the following section

which will then allow for the final recommendation to be made.

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5 Feasibility Analysis of the Strategic Options

The feasibility of each of the strategic options is analyzed below using a framework based on the

“Diamond-E Framework” (Crossan, Rouse, Fry, & Killing, 2013).

5.1 Strategic Option 1: Focus on Retirement Based Product

Strategic Option 1 involves a number of separate initiatives designed to work together, however,

the Strategic Option may be a good alternative even if only some of the initiatives are feasible.

5.1.1 Managerial Requirements and Gaps

5.1.1.1 Preferences and Decision Criteria

Requirement Managers are willing to de-prioritize the Dovos Classic Alpha and Balanced

product in favor of a Retirement Focused product

Gap No major gap.

Gap Filling Solution None necessary

Cost None

5.1.1.2 Experience

Requirement

Offering Memorandum distribution requires Management to be proficient in

operating a pooled fund distributed to many independent Portfolio Managers

nationally.

Gap Currently management does not have this proficiency.

Gap Filling Solution Training and hiring of consultants such as legal and accounting advisors

Cost Low

89

5.1.1.3 Team Composition

Requirement Management team must be diversified and well versed in the running of an

investment management firm

Gap No gap exists

Gap Filling Solution None needed

Cost None

5.1.1.4 Summary

Overall the managerial gaps are small or have low gap filling costs.

5.1.2 Organizational Requirements and Gaps

5.1.2.1 Structure

Requirement Investment research team is capable of constructing customized Low Volatility

High Yield strategies including Asset Allocation.

Gap Dovos does have an investment research team; however, much of their time is

dedicated to legacy Alpha product.

Gap Filling Solution

Hire a junior team member to support legacy product or outsource the legacy

product so that the existing top team members can be dedicated to researching

the retirement based strategies.

Cost Low to Medium.

90

5.1.2.2 Systems

Requirement

Investment research technology and access to data necessary for the

construction of custom Low Volatility and High Yield retirement focused

products

Gap Dovos currently has such technology and data.

Gap Filling Solution None needed

Cost None.

Requirement Efficient SMA portfolio management system capable of potentially handling

hundreds of different SMA accounts

Gap

Dovos currently has a very simple system for managing SMA accounts which

treats them as special cases of the normal Dovos accounts. The current system

is sufficient for less than 10 accounts at which point a more robust solution

will be necessary.

Gap Filling Solution The current system will need to be extended. There is no need for a

replacement of the underlying system.

Cost Medium.

5.1.2.3 Culture

There are no significant Culture requirements needed for this option.

5.1.2.4 Summary

Overall the structural requirements for this option are low to medium.

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5.1.3 Resource Requirements and Gaps

5.1.3.1 Operational

Requirement

If many new SMA portfolios are launched, Dovos will require staff dedicated

to managing the SMA book of business. Each account will have its own

particular requirements which will need to be monitored to ensure that nothing

is missed.

Gap Such staff does not currently exist. SMA accounts are managed as a split

responsibility amongst existing staff.

Gap Filling Solution Hire and train additional staff as required.

Cost

Low to Medium.

This cost should be fully marginal and incurred only if there is sufficient

revenue to require it.

5.1.3.2 Human

Requirement Dovos must have Portfolio Managers who are motivated to work with referral

partners to generate and capture referral leads.

Gap

Current Dovos Portfolio Managers are quite busy with their existing clients and

not motivated to take on referrals which generate less revenue for them than

their own clients.

Gap Filling

Solution

Hire a new Portfolio Manager with a small client list or promote someone

internally to the role of a Portfolio Manager who will be highly motivated.

Cost Medium.

5.1.3.3 Financial

There are no significant financial gaps required for this option.

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5.1.3.4 Summary

Overall the costs of the resource gaps are medium.

5.2 Strategic Option 2: Distribute to Emerging Markets



Requirement Firm founders have to be open to operating the company in Emerging Markets

which is a very different direction from what Dovos has done historically.

Gap This option has not been considered before so their openness to making this

move is unknown.

Gap Filling

Solution

The founders and the management team have to be educated on the reality of

doing business in a chosen Emerging Market. This will involve trips and

consultation with appropriate experts.

At the end of the exercise, this gap may still not be filled.

Cost Medium

5.2.1.2 Experience

Requirement Management must have experience in dealing with the regulatory and business

particulars of the specific chosen Emerging Market

Gap Currently the management team has no such experience.

Gap Filling

Solution

The team would have to be augmented by either hiring a full time manger with

the necessary experience or by engaging a consulting firm.

Cost Medium to High

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Requirement Management team must have a local representative who can work with local

regulatory bodies.

Gap Currently the management team lacks this representation.

Gap Filling

Solution

The team would have to be augmented by hiring a local representative.

Cost Medium

5.2.1.4 Summary

Overall the management costs for this option are medium to high.


5.2.2.1 Structure

Requirement

With the local operations mostly handled by a Joint Venture partner, Dovos will

require a small liaison department which will coordinate operations between the

Canadian back office and the local distributor

Gap Dovos does not have this department

Gap Filling

Solution

The new department must be created

Cost Medium to High

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5.2.2.2 Systems

Requirement Dovos will require a robust compliance system which will satisfy BCSC that our

Emerging Market clients are not a high risk for money laundering or terrorism.

Gap Dovos has a compliance system but it was designed for Canadian and US

clients.

Gap Filling

Solution

The Dovos system has to be extended or replaced with a 3rd

party solution.

Cost Medium

Requirement Dovos will require a client database and client trade system which can work in a

satellite office and connect to the Canadian headquarters.

Gap

Current Dovos system was designed to be used in a single location but it does

have the capability to be used remotely. It currently requires a fast internet

connection which may be problematic.

Gap Filling

Solution

The current system can be enhanced to fully support true remote work.

Alternatively a robust 3rd

party system can be licensed which will replace the

Dovos system.

Cost Medium to extend and test current system.

High to replace current system with a 3rd

party system.

95

5.2.2.3 Culture

Requirement Dovos staff will have to be proficient in dealing with the Joint Venture partner

requests and business culture.

Gap Currently Dovos staff is only familiar with the Canadian business culture.

Gap Filling

Solution

Dovos staff will have to be trained.

Cost Low to Medium.

5.2.2.4 Summary

Overall the organizational requirements are medium to high.


5.2.3.1 Operational

Requirement Dovos must have the ability to operate an Investment Management business in a

specific Emerging Market country

Gap Currently Dovos does not have the necessary registrations or capability.

Gap Filling

Solution

Dovos will form a Joint Venture with a local partner interested in distributing

the Dovos product or find a suitable buy out target.

Cost

High and very uncertain.

It is difficult to estimate the likelihood that Dovos will find an appropriate Joint

Venture partner or buy out target.

96

Requirement Dovos will have to be able to process transactions from Emerging Market banks.

Gap Currently Dovos deals with Developed Market banks only.

Gap Filling

Solution

If the current Dovos custodian is not able to effectively deal with local

Emerging Market banks, then an alternative custodian with a global reach will

be employed. For example Citi Bank.

Cost Medium to High if Dovos has to switch custodian to Citi Bank.

5.2.3.2 Human

Requirement

Dovos will have to have access to local staff that will run the Investment

Management office, act as the Portfolio Manager and Client Service

representative.

Gap Dovos does not have such staff.

Gap Filling

Solution

Dovos will form a Joint Venture with a local partner interested in distributing

the Dovos product or find a suitable buy out target.

Cost

High and very uncertain.

It is difficult to estimate the likelihood that Dovos will find an appropriate Joint

Venture partner or buy out target.

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5.2.3.3 Financial

Requirement

Dovos must have sufficient funding to acquire a small local Investment

Management firm or to form a Joint Venture.

Additional funding must be available to sponsor the local operations until the

new venture grows to be self sufficient.

Gap Dovos has access to pre-approved credit; however, the amount will likely not be

sufficient.

Gap Filling

Solution

Additional funding must be secured so that Dovos can improve its capabilities

and sponsor the partner

Cost

Medium and uncertain.

It is not clear whether Dovos will be able to secure sufficient funding for this

venture.

5.2.3.4 Summary

Overall the resource requirements are medium to high and carry significant uncertainty.

98

5.3 Strategic Option 3: Become a Service Provider to PMs



Requirement

The founders and the management have to be willing to explore options which

shift the company from being a pure investment manager to also being a service

provider.

Gap Current Dovos management and founders are interested in pursuing alternatives

which redefine the business model.

Gap Filling

Solution

None required.

Cost None.

5.3.1.2 Experience

Requirement The management must have experience running a back-office with a client

service and a compliance sections.

Gap None. Currently Dovos runs such a back-office.

Gap Filling

Solution

None needed.

Cost None.

99

Requirement The management should have experience running a service organization.

Gap

The current Dovos set-up has a service mindset towards the clients whose

money is invested. This mindset would have to be shifted towards treating the

Portfolio Managers as clients.

Gap Filling

Solution

Shift in managerial mindset towards Portfolio Managers.

Cost None.

Requirement Once there are multiple Portfolio Managers occupying multiple satellite offices,

the management must be experienced in running a multi-site operation.

Gap Currently the management has no experience with a multi-site office.

Gap Filling

Solution

Additional training or consulting as needed.

Cost Low.


Requirement The management must have managers familiar with BCSC’s regulatory

requirements and with how Portfolio Managers like to operate.

Gap The current Dovos management does possess this knowledge through its team

members.

Gap Filling

Solution

None needed.

Cost None.

100

5.3.1.4 Summary

Overall the management requirements are low.


5.3.2.1 Structure

Requirement Dovos has to be organized so that the Portfolio Managers have their needs met

and are satisfied as clients.

Gap

The current set-up has Portfolio Managers as employees of the Sales

Department working with the Client Service section, the Administration

Department and the Investment Department. While these departments do service

the current Portfolio Managers, it is not a true client-service provider

relationship.

Gap Filling

Solution

The servicing departments would have to be reorganized so that they were

motivated to treat the new Portfolio Managers as clients. This setup would then

apply to all Portfolio Managers so that everyone received a fair service.

Cost Low to Medium. This is primarily a training and compensation structure issue.

Each additional PM adds to the cost as additional staff will be required.

5.3.2.2 Systems

Requirement Dovos would have to implement a system which would ensure a fair treatment

of all Portfolio Managers and a fair treatment of all end clients.

Gap

Dovos has no experience with working for Portfolio Managers coming from

different organizations with different habits and requirements. It is possible that

while the program is getting started, errors will be made or specific needs of the

new Portfolio Managers will not be met.

Gap Filling

Solution

Dovos must implement an iterative system of improvements and feedback in

conjunction with oversight from Compliance to ensure that all Portfolio

Managers and their clients are treated fairly.

Cost Low. This is primarily a training and procedural issue.

101

Requirement Dovos must have a flexible trading platform which can be used by Portfolio

Managers to choose their own stocks for their clients.

Gap The current system allows Portfolio Managers to choose the Dovos Pooled

Funds only. All individual stock picking is done by the investment department.

Gap Filling

Solution

The current system has to be extended or a new 3rd

party system must be

implemented which will allow the Portfolio Managers to choose stocks and

directly control their client’s investments

Cost

Medium to High.

If the current system can be extended then the costs are lower. The current

system is not robust enough to handle more than 5 Portfolio Managers.

A 3rd

party system can be relatively expensive to license. This will be necessary

once 6 or more Portfolio Managers are signed up.

5.3.2.3 Culture

Requirement

Dovos has to be open to the idea that its Investment Team is not the only

product creator at the company and that the Dovos investment brand will be

diluted.

Gap The current culture is focused on Dovos Investments being the only identity of

Dovos.

Gap Filling

Solution

This requires a shift in thinking of the staff, especially the Investment Team.

Cost None.

5.3.2.4 Summary

Overall the organizational requirements are low to medium.

102


5.3.3.1 Operational

Requirement Dovos must have adequate space to provide seating for the new Portfolio

Managers and their associates.

Gap The current Dovos office space is only large enough to house one more Portfolio

Manager. Additional Portfolio Managers will require more space.

Gap Filling

Solution

A satellite office will be leased in the proximity of the main Dovos office. The

office would be able to handle two to five Portfolio Managers. If additional

space is needed, additional offices can be leased.

Cost None to Medium to High as the requirement moves from not needing any

additional office space to needing multiple additional offices.

Requirement Dovos requires an IT infrastructure which can handle multiple satellite offices.

Gap Current Dovos infrastructure is designed for a single office with a single off-site

backup.

Gap Filling

Solution

The infrastructure would need to be extended.

Cost Medium. The current infrastructure is extensible and should scale with the

addition of hardware and contract labor for the initial setup.

103

Requirement Dovos requires a bulk client on-boarding system so that a joining Portfolio

Manager can quickly open accounts for all of their clients.

Gap Current Dovos client on-boarding system is heavily manual and is designed for

single accounts being opened individually.

Gap Filling

Solution

Dovos would need to develop automation to help with the account opening

process.

Cost Medium. The problem itself is well understood which makes this an

implementation problem.

5.3.3.2 Human

Requirement Dovos must have sufficient staff to handle the additional workload new

Portfolio Managers with many clients would create.

Gap Currently Dovos staff is optimized for the Dovos clients and slow, organic

growth.

Gap Filling

Solution

New staff will have to be hired.

Cost Medium to High. Depending on the number of new Portfolio Managers and

clients that are being brought on-board.

104

5.3.3.3 Financial

Requirement

Dovos requires sufficient funds to purchase the service contract from the new

Portfolio Manager. Typically, a substantial incentive based a multiple of total

revenue from all clients is paid to the Portfolio Manager for the business. Funds

are also needed to make any of the system improvements and to hire new staff

as required by the number of new Portfolio Managers.

Gap Dovos has access to a pre-approved credit line which can be used to fund a

single new Portfolio Manager.

Gap Filling

Solution

Additional funds will need to be secured to fund additional Portfolio Managers.

Cost Medium. The availability of the additional funding is not guaranteed.

This Gap increases in cost with each additional PMs

5.3.3.4 Summary

Overall the resource requirements are Medium with the exception of funding if multiple

Portfolio Managers are to be brought on board.

5.4 Feasibility Summary

Table 5-1 illustrates the individual option feasibility for each requirement type and the final

average feasibility. Score of 5 indicates the smallest gap, or an easy to fill gap.

105

Feasibility Requirement Category

Option 1: Retirement

Product Focus

Option 2: Emerging Markets

Option 3: PM Service

Provider

Management

Preferences and Decision Criteria 5.0 3.0 5.0

Experience 5.0 2.0 5.0

Team Composition 5.0 3.0 5.0

Organization

Structure 4.0 2.0 4.0

Systems 4.0 3.0 4.0

Culture 5.0 4.0 5.0

Resources

Operational 4.0 1.0 3.0

Human 3.0 1.0 2.0

Financial 5.0 2.0 3.0

Average 4.4 2.3 4.0

Table 5-1: Strategic options feasibility summary. Source: Author.

Option 1 has the highest feasibility with Option 3 being a close second. Option 2 has low

feasibility with significant Operational and Human resource gaps which may be very difficult to

fill.

106

6 Final Recommendation

6.1 Options Choice

Option 1: Focus on Retirement Products is the recommended option. This multi-faceted

option includes a number of initiatives which can be implemented as the opportunity arises.

Given that the social demographics of investors in the Developed Markets such as Canada are

shifting towards retirement age and given that there is increased fear of market instability, the

demand for investments built around protecting wealth, generating income and avoiding risk will

keep increasing for decades.

Option 2: Emerging Markets is very attractive from the potential revenue and profit generation

side, however, the option is very risky for Dovos given the company’s lack of experience in

operating outside of Canada. This option would be worth pursuing if there were no safer

alternatives or if Dovos had sufficient resources to pursue the strategy without risking negative

impact on the core Canadian business.

Option 3: Service Other Portfolio Managers is a middle of the road option with the second

highest predicted pay off and medium risk. This option has the advantage of generating revenue

fairly quickly and the disadvantage of requiring a capital investment to bring the Portfolio

Managers on board. On the other hand, this option is perpendicular to the core investment

strategy so it is feasible for the company to pursue Option 1 and Option 3 at the same time.

107

6.2 Timeline

This action plan deals with reactive changes (Crossan, Rouse, Fry, & Killing, 2013) and as such,

it can be implemented over a 12 month period with quarterly evaluation points. There are three

major objectives:

Develop a complete retirement based product lineup based around the Low Volatility

High Yield research.

Increase the internal sales force by at least one more junior Portfolio Manager.

Add four more referral partners.

The high level timeline for the next 12 months should be implemented as listed in Table 6-1.

Activity Completed by

Hire a Junior Investment Researcher to take on Core Alpha product and

free up Research Team for new product development 1 month

Create enhanced retirement based product for the SMA channel 3 months

Hire a new Portfolio Manager to focus on growing assets through referral

partners 3 months

Find at least one more referral partner for the Partner Program 3 months

Register the Dovos (OM) funds with Advisors 6 months


Complete research on the Asset Selector model 9 months


Enhance the Low Volatility High Yield product to ensure its

competitiveness. 12 months

Table 6-1: Strategic option implementation timeline. Source: Author.

108

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109

Appendix A

Option 1 – Retirement Product

110

Option 2 – Emerging Markets

111

Option 3 – Become a Service Provider to Portfolio Managers

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